Concerns raised over longer mortgages and rise in credit card use

The Bank of England’s Financial Stability Report has forecast a continued rise in households with high debt servicing ratios and an increase in the use of consumer credit.

The report says that while households and businesses are already facing cost-of-living pressures and higher borrowing costs, the full impact of higher interest rates has yet to through to them. The Bank expects businesses to be resilient to higher interest rates and weak growth, smaller businesses and those with relatively bigger debts are likely to struggle more.

It has also raised concerns about the increasing number of homeowners opting for mortgages with terms of 35 years or longer, with the rise driven by borrowers trying to mitigate the impact of higher interest rates. The Bank warned that while longer mortgage terms may provide short-term relief, they could lead to higher debt burdens in the long run. 

The report says consumers are taking longer mortgages and spending more on credit cards in an attempt to adapt to higher interest rates and living costs, potentially storing up debt troubles in future. The bank has seen evidence over the last three months of some households increasingly relying on credit cards to make ends meet.

Prospective homebuyers have also been adapting to financial pressures by taking out longer-term mortgages. In total, the proportion of mortgages lasting 35 years or more had increased from 4% in the first three months of the year to 12% in the second quarter.

The FPC also noted an increase in borrowers falling into arrears – albeit from low levels – and expected the number of customers falling behind on their debts to increase. Banks had simultaneously started to tighten their lending, amid fears over the economic outlook. But overall, the UK banking system was broadly in good health and asset quality remained “relatively stable”, the FPC said.

However, it said the potential risks were “somewhat” offset by rules set by the Financial Conduct Authority (FCA), which require banks to be responsible lenders.

Consumer spending was under pressure as higher borrowing costs, due to the continued rise in interest rates, and cost of living pressures meant many were having to find other ways to pay for everyday purchases.

While the annual rate of credit card spending growth was relatively stable – holding steady at 11.8% – the committee said the trend “could lead to greater debt vulnerability for households in the near term.

Meanwhile, the Bank announced it would pause its normal stress tests, which ensure that the UK’s largest high street lenders can withstand severe financial shocks and an extreme downturn in the UK and global economy.

Instead, it would run a “desk-based scenario” – similar to checks conducted during the Covid crisis – which would measure the health of the banking system as a whole, without having to publish the results of individual lenders.

The committee said this would allow it to test banks’ balance sheets against more than one scenario, including whether interest rates stayed higher for longer, or suddenly dropped and affected banks’ incomes. This would also give policymakers an opportunity to review the normal stress-testing regime, which was implemented after the financial crisis and could end up including a broader range of lenders, including smaller banks.