10 September 2012

EMF: Study on mortgage interest rates in the EU

The aim of this Study is to shed light on: a) the different types of mortgage interest rates which exist in EU Member States; b) the breakdown of mortgage markets by interest rate type; and c) trends in mortgage interest rates across countries, particularly in light of the effects of the crisis.

As evidenced in the previous Study of 2006, residential mortgage markets typically fall into two broads groups, which can be defined as fixed-interest rate countries and variable-rate countries. The first group has traditionally included Belgium, Denmark, France and Germany, while Hungary, Ireland, Italy, Portugal, Spain and Sweden have often been included in the second group.

Notwithstanding the above distinction, in many EU countries the breakdown by mortgage rate type (fixed or variable rates) can change very rapidly, which is evidenced by the historical data available in this Study. These changes are typically due to general monetary policy conditions, as well as to changes in the relative cost of short-term rates versus long-term rates due the slope of the yield curve, but are also affected by cultural factors (such as borrowers’ risk-averseness, etc.), the predominant type of funding sources and interest rate caps/floors.

In particular, in markets where covered bonds play a predominant or considerable role in mortgage funding, the slope of the yield curve determines higher or lower costs associated with variable-rate mortgages: if the yield curve becomes steeper, long-term rates are expected to increase and therefore variable rate mortgages become less expensive and more attractive than fixed rate mortgages.

Before the recent global crisis, mortgages with an initial fixed period were the predominant type of loan in most of the EU markets in terms of both new business and balances outstanding. Since the onset of the crisis in Q3 2008, there has been a moderate shift in borrowers’ preferences towards variable rate mortgages in some markets (Belgium, Italy) due to policy rates at record lows, but at the end of 2011, fixed rates were still predominant in these markets.

In some mortgage markets (Denmark, Italy, Spain, Portugal), the main variability mechanism for variable interest rates is a linkage with the main reference rate based on the wholesale money market rate (or inter-bank market rate).

The level of mortgage interest rates went down from very high levels in the early 1990s (as a result of tighter monetary policies due to very high inflation rates) to considerable lows in the 2000s and this decrease continued uninterruptedly until 2007. From 2007 to Q3 2008, a general upward trend in mortgage interest rates was observed as a result of monetary policy tightening due to inflationary pressures. The crisis of late 2008 then prompted an unprecedented expansionary monetary policy stance in the EU, resulting in record lows in representative mortgage rates during 2010.

From Q3 2010 to Q2 2011, there were signs of reversal in monetary policies as a result of inflationary pressures, which eased however in the second half of 2011. The onset of the sovereign debt crisis for some euro area economies in Q2 and Q3 2011 prompted a further turnaround in monetary policy across the EU. Rises in policy rates by Central Banks caused moderate increases in mortgage interest rates, which nevertheless remained low once put in historical context.

Full study

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