Financial policy committee also warns of possible run on sterling and higher interest rates for mortgages in boost for remain side
The Bank of England has given David Cameron a significant boost ahead of the EU referendum by warning that a vote to leave risks causing a run on sterling, a credit crunch and higher interest rates for mortgage payers and businesses.
Threadneedle Street said the closely fought campaign posed the “most significant near term” domestic risk to financial stability, after one of its key policy committees weighed up the consequences of Britain ending its 43-year relationship with the EU.
Although neither Downing Street nor the Treasury responded to the statement from the Bank’s financial policy committee (FPC), the prime minister and the chancellor, George Osborne, will find its assessment useful as they attempt to make the case for a remain vote on 23 June.
The Bank has deliberately made no comment about the long-term costs and benefits of Britain remaining in the EU, but is making contingency plans for the turbulence that it expects – in the UK and the eurozone – in the event that the Brexit camp prevails.
The FPC statement warned that “heightened and prolonged uncertainty” had the potential to drive up interest rates for a wide range of assets, “which could lead to a further depreciation of sterling and affect the cost and availability of financing for a broad range of UK borrowers”.
It said the pressures had the potential to heighten existing vulnerabilities for financial stability, stressing the fact that Britain relied on foreign investors to fund a balance of payments deficit on current account that was “high by historical and international standards”.
That shortfall, the FPC said, could only be financed through continuing hefty inflows of direct investment and speculative cash, and there would be an impact for the cost of government borrowing and the property market if they dried up.
“Those flows have contributed to the financing of the public sector financial deficit and corporate investment, including in commercial real estate,” the FPC said.
A decision by the UK to withdraw from the EU could “spill over to the euro area, driving up risk premia and further diminishing the prospects for growth there,” it added.
Mark Carney, the Bank’s governor, told MPs this month that the referendum was the main homegrown threat to stability, but the FPChas formalised the threat and given it the backing of the full committee. It also sets out in stark terms the potential impact on the government and households if markets take fright at a possible vote to leave.
The campaign to stay in the EU seized on the FPC’s warning, emphasising the fact that it is made up of experts independent of Carney, who chairs the committee. His warning to MPs caused a political row as leave supporters accused him of compromising the Bank’s independence.
The former chancellor Alistair Darling said: “This assessment makes it clear our economy would be more vulnerable and less resilient if we vote to leave the EU – leading to higher mortgage rates for families and higher interest rates for Britain’s businesses. It is a serious piece of work that should make everyone think twice about irresponsibly gambling with people’s jobs and livelihoods.”
Matthew Elliott, the chief executive of Vote Leave, said: “The biggest risk to the UK economy, a risk that even the Bank of England acknowledges, is Britain remaining in a declining political union where we are outvoted and our trade is held back. Even pro-EU campaigners have admitted that after we vote leave on 23 June, we will secure a deal where the economy will grow and jobs will be created. The safest thing for our economic security is to spend our money on our priorities.”
The FPC said: “The FPC judges that the outlook for financial stability in the UK has deteriorated since it last met in November 2015. Domestic risks have been supplemented by risks around the EU referendum.”
The EU vote was an added threat to financial stability on top of risks that were on the rise, it added. Household debt is relatively high and the risks from credit growth have risen beyond their subdued levels following the financial crisis, though they are not yet “elevated”, the committee said.
The Bank is taking action to rein in buy-to-let mortgage lending, which it has been watching with concern for some time. Last year, the stock of buy-to-let mortgages increased by 11.5%, while the stock of lending to owner-occupiers remained unchanged.
The market has leapt back into life over the past three years after slumping during the financial crisis. Last year, gross lending for buy-to-let property jumped to about £37bn, up from less than £10bn in 2009 and approaching the peak of almost £45bn in 2007.
Lenders plan to increase buy-to-let lending by an average of 20% a year over the next two years, the Bank’s regulatory arm, the Prudential Regulation Authority, found. About a quarter of lenders were applying weaker lending standards than the market norm, raising fears that they will suffer large losses if the market changes.
The PRA, the Bank’s regulation arm, is concerned that changes to mortgage interest tax relief for landlords will strain buy-to-let borrowers and that only a few lenders include this risk when assessing mortgage applications.
It set out measures that it predicted would reduce the number of new buy-to-let mortgages by between 10% and 20% during 2018:
- Lenders should consider the borrower’s costs associated with letting the property, including tax costs
- A borrower’s personal income should be verified if the lender wants to include it to support the mortgage
- Lenders should include future interest rate increases in affordability assessments
- There should be a special underwriting process for “portfolio landlords” with four or more properties
Reference: http://www.theguardian.com/business/2016/mar/29/bank-of-england-clamps-down-buy-to-let-lending