The long road to lower rates: how can lenders and borrowers strap in for the long haul?

In January, UK inflation jumped to 3% from 2.5% the previous month. After a difficult few years, borrowers and lenders have been searching for the light at the end of the tunnel. The latest figures – driven by higher food costs and preceded by rising energy bills, train fares and even moving costs in the form of higher stamp duty for some – indicate that they’ll have to wait a little longer for relief.

The narrative around inflation and the state of the economy has been proven wrong time and again. The story went from ‘transitory’ inflation after the pandemic to expectations of tamed inflation and rapidly falling rates – neither of which has proven true thanks to the increasingly volatile and uncertain world in which we find ourselves. These shifting economic tectonic plates are beyond the control of lenders and borrowers – the question is therefore how to respond over the long term.

The most recent data from Pepper Advantage’s Q4 2024 Credit Intelligence report showed that the overall rate of arrears for residential mortgages increased by 2.4% compared to Q3 2024 – indicating that pressure on borrowers has continued to grow. With inflation potentially sticking around, borrowers need to consider their finances carefully and lenders must proactively support vulnerable customers.

Lowering expectations

The prospect of stagflation – where growth stalls and inflation rises – may cause the Bank of England to cut rates further. Some market commentators have priced in several rate cuts before the end of the year, expecting regulators to do all they can to breathe life into the economy. However, as we have seen recently, the mortgage market’s exposure to market forces goes beyond central bank rates – rate cuts do not necessarily mean cheaper mortgages any time soon.

The real problem is that the timeline for lower mortgage repayments has steadily extended. The cheapest mortgages recently breached the sub-4% barrier but many of these rates are only available to borrowers with a lower loan-to-value ratio (LTV) and would at best offer an incremental decrease for those on two-year fixed deals. Every little helps, but many borrowers will feel the strain when faced with higher borrowing costs for another two to five years.

So, what can lenders and borrowers do to weather potentially stubborn inflation over the medium term?

• Lenders: The data and macroeconomic conditions suggest that market stress is here to stay. Mortgage portfolios will therefore come under sustained pressure from persistently high borrowing costs. Customer care should be at the heart of lenders’ approach – using data to detect problems early and be on hand to sensitively and constructively help households in need before challenges escalate. Getting ahead of the problem is key – putting in place the infrastructure and analytics required to identify potentially vulnerable customers is essential.
  
  
• Borrowers: Understanding financial liabilities and the time left on current mortgage deals is key to planning ahead and avoiding arrears. Whether households are moving from a lower to a higher rate or facing higher rates than they anticipated when they started their mortgage in the hope that rates would decrease – now is the time to examine household finances. Preparing for the worst and hoping for the best will allow households to trim the fat on their finances – and when rates finally come down, they will be in a stronger position.

Building resilience

While tough conditions have felt unrelenting for some time, the economy is in a better position now than this time last year. Global forces continue to shape the macroeconomic backdrop, but supply chain pressures have broadly stabilised and it is unlikely that we will see a surge in inflation as dramatic as what we saw post-pandemic. However, if we have learned one thing, it is to take nothing for granted. Financial resilience in all times is essential – and it is our job as a mortgage service provider to offer proactive advice and assistance to borrowers, especially those most likely to be struggling.