Renters need an umbrella too

Andrew Bailey attended Queens' College, Cambridge, where he gained a bachelor's degree in history. He rose from there to become the Governor of the Bank of England. People around the world pay attention when central bankers express opinions. This article takes issue with Mr Bailey's views about the rules governing the mortgage market. This is not an ad hominem attack. One is entitled to presume that the Governor speaks for the institution and, on Wednesday, Bailey declared himself “very happy to have a very open public debate” about the restrictions on UK mortgage lending.

We all love history. The term Bank of England is an anachronism. Mr Bailey leads an institution that works on behalf of all Britons, not just the English. As an historian, he understands that the name might need to be changed at some point. However, I see little harm in retaining the word England for old time's sake. Some things are still sacred.

Not all traditions deserve respect. The Bank has a mandate to keep inflation under control. It must also support the government's objectives to spur economic growth and employment. In keeping with her mandate, Chancellor Rachel Reeves has suggested we look hard at rules and regulations that hold back growth, including those imposed and enforced by the Bank of England. Some of those rules dissuade banks from helping people to buy a home. Since residential mortgages dwarf all other personal financial services provided by banks, scrutinising mortgage restrictions is no small issue.

Who deserves the Bank's protection: Success in meeting its goals – inflation, growth, employment – provides protection for all Britons. Think of this protection as an umbrella the Bank must carry around (as a wise woman once sang) in anticipation of precipitation. If one can identify a segment of the population that is not adequately protected, it's worth looking at the size of the umbrella and checking it for leaks. If rules within the Bank's purview impose substantial harm that examination of the umbrella should be both thorough and urgent.

Central banks regulate mortgage banks. When banks fail governments often step in, which costs taxpayers money and hence hurts all Britons. This doesn't happen every day but nor does it rain every day. One must carry an umbrella on days when the skies are blue if the forecast predicts inclement weather. Within the broader mandate to regulate banks, the central bank keeps one eye on the welfare of their customers (depositors, and mortgage borrowers, among others). Here the Bank of England swivels away from the interest of all Britons and prioritises the interest of those fortunate enough to become customers of the institutions it regulates.?

Whom do these rules serve? Bailey is open for this much needed debate but – and there is always a but – he observed that the restrictive rules helped Britain avoid a surge in home loan defaults “…of the sort we have seen in the past…”

These rules protect the bank's customers from drizzle, each and every day, and tamp down the risk to the banks of the rare tempestuous storm.

It is natural for an historian to look at the past. I don't have a history degree so I will defer to Bailey's interpretation of historical facts and trends. However, extrapolating from Department of Housing data, some 2.3 million families moved home in 2022, including about 90,000 who moved from renting a home to owning outright without needing a mortgage. For a sense of scale, extrapolating from data supplied by UK Finance, there were about 265,000 first time borrowers in 2023.

Add those two numbers together and the data suggests that roughly a quarter of all first time buyers were wholly unaffected by restrictive lending rules. It would be reductive to call them rich people but fair to observe that these families pulled hundreds of thousands of pounds out of a hat and just went out and bought a home. Who needs an umbrella?

Meanwhile, back on Earth One. A million families moved from one rented home to another. Indeed, some ten million families rent. On my maths, for every three families that get a mortgage in a typical year, ninety-seven renters don't get a mortgage, most of whom would rather own. Don't look at me. Ask them.

Let's talk history. The mortgage as a product has been around since the Medicis. There are no recorded incidences of foreclosure that do not involve a homeowner borrowing money. This reading of history provides a strong argument in favour of raising not lowering the restrictions on mortgage lending. Making it harder to buy a home will reduce the number of people who default on a home loan. And, if reducing mortgage foreclosure was the sole metric, this logic would drive one to the conclusion that nobody should buy a home with a mortgage. Job done. True, banks rely on mortgage lending to survive but there are casualties in every war.

If this sounds like a satirical observation, strap in. According to UK Finance, banks repossessed some 990 mortgaged properties in the third quarter of 2024. That's eleven foreclosures a day – more, if you don't work on weekends. Either way, it's enough to keep a medium sized law firm in Ipswich busy.

Let's look at it another way. Round that 990 up to a thousand a quarter, multiply by four, and divide by eight million and you can conclude that 0.05% of borrowers trying to pay off a mortgage failed so badly their homes were repossessed. You can put your pencils away now. My point is this. Mr Bailey's staff includes some of the brightest economists in Britain. Unless I'm missing something, the cost benefit analysis doesn't seem that hard.

To the casual observer, making it hard to buy homes looks very much like a policy designed to drive foreclosures to zero. Were such an observer one of the millions stuck renting it looks very much like generals fighting the last war.

More cost benefit analysis: Annually, these renters shell out about a third of their income in rent, call it ￡10,000 or so – going, going gone this year – and ￡10,000 or so next year and so forth. Multiply by ten million renters and you get about ￡100 billion moving from tenant to landlord annually. It would be reductive to call these renters poor people but let's call a spade a spade. Very few have the means to pull a cool quarter of a million out of a hat and just go out and buy a home without a loan.

Since it takes thirty years to buy a home, that ￡100 billion a year becomes ￡3 trillion in total, more if you're lucky enough to rent deep into your twilight years. For a sense of scale, the entire mortgage market is about ￡1.7 trillion of debt outstanding. And let's not forget that rent rises in line with inflation and mortgage balances do not. If forward indexed gilt yields are reliable, that ￡3 trillion is about ￡5 trillion when compared to the stock of mortgages outstanding. And did I mention that renters were relatively less well off than people with the means to buy a home?

It would be reductive to say the rich get homes while the poor get poorer but sometimes a pithy statement is best.

Where's that umbrella when you need it? The Bank of England has no mandate to help renters as they are not mortgage bank customers. For a sense of scale, in the largest financial scandal in British history, the regulators enforced claims totalling some ￡38 billion to compensate people for the pernicious effects of pension protection insurance mis-selling. That's ￡38 billion once, not annually. It would be scandalous if these people simply fell outside the regulatory perimeter for historical reasons. There would be a public outcry to change the rules.

More sense checking required. Let's look at the history of mortgage defaults. Back in the gory days, say 2009 when defaults were at their peak, banks foreclosed on some 50,000 mortgages. Let's pretend that in every case the borrower was in a negative equity position and lost their entire deposit savings (say ￡25,000). On my maths, that grizzly incidence of default cost home buyers some ￡1.3 billion, not ￡38 billion once off and not ￡100 billion annually. In reality, very few people who lost their homes in 2009 were completely wiped out so this ￡1.3 billion is a gross over statement of the problem in the peak year. The cost to borrowers today is considerably lower as illustrated in the chart.

There has to be a better way. Here's one we baked earlier. There are many different ways to finance the purchase of a home. We are developing a contract that we call daysrent? home purchase plans. These plans are not regulated by the Bank. Hence, plan providers need not require deposits, interest rate stress tests, and many other regulatory bells and whistles. Plan providers are subject to the Financial Conduct Authority's Mortgage Conduct of Business rules (MCOB). We don't believe in the wild west. There are hundreds of thousands of shared ownership contracts and Islamic mortgages that are not regulated by the Bank of England.

The rules are pretty basic. Plan providers must?assess whether the customer can make their payments without experiencing financial difficulties.?Providers must take account of the customer's repayment headroom, meaning their net income minus several types of expenditure such as repaying loans, utilities, council tax, and essential travel.?The provider must assess how much the applicant needs to feed and clothe themselves, their child care costs, and even the cost of basic recreation, such as a TV subscription.

Keep it simple: Funnily enough, these plans are pretty much the same as a rental agreement with a private landlord. And, for people who fail to qualify, their only other alternative is a conventional residential lease so there would be no logic in setting a higher standard.

Besides, landlords have an incentive to ensure they rent to reliable tenants. Without prompting from either the Bank of England or the FCA, they voluntarily assess whether the customer can make their payments without experiencing financial difficulties.

In other words, tightening the rules to push people from one place to another does nothing to change the unemployment rate, the economic growth rate, or any other factor that affects the fortunes of renters and borrowers when lumped together.

Making the mortgage affordability rules mimic those adopted voluntarily by the landlords is called financial innovation, apparently. It's not the sexy stuff, like FinTech but it's old school innovation nonetheless.

Apparently, the FCA's MCOB and other rules run to 10,000 pages. Reportedly, the authority seems open to a little pruning. Why not expand the regulator's ambit? Perhaps the MCOB affordability rules should also apply to private landlords. As the FCA already regulates mortgage banks, the Bank of England could step back from setting overlapping affordability standards altogether. It's just a suggestion.

Posterity will record that when the chips were down in the global financial crisis, it was the mortgage banks, not the landlords, who ran into trouble and needed to be bailed out. While correlation is not causation, this history provides at least some evidence that tying up banks with Lilliputian guy ropes and tent pegs is not a panacea. Foreclosures have swung between 0.05% of all mortgages when the weather is clement and 0.95% in a hail storm. Making it harder for millions of people to buy a home cannot be the only answer to this conundrum.

I have every respect for Mr Bailey and the Bank. They have done an admirable job bringing inflation under control and engineering a soft landing for an economy that was widely expected to slump into recession last year. Recessions are rare but the risk is ever present. Likewise, double digit inflation is rare but the risk is ever present. The Bank carries an umbrella to protect us from those infrequent storms. However, forcing families to rent when they would rather own is like exposing them to constant drizzle. Renters need protection too.

Ike Udechuku | Cofounder | Pathway

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