Societies oppose more rate cuts

More rate cuts may actually restrict further lending, the BSA warns

The Building Societies Association (BSA) has called on the Bank of England not to cut interest rates this week.

The Bank's monetary policy committee (MPC) meets on Thursday amid widespread expectations of a further reduction in the cost of borrowing.

The BSA said this would have a "severe impact on savers", and might choke off the supply of funds available to societies to lend as mortgages.

The Bank Rate has been cut four times since last October from 5% to 1.5%.

Last week, a poll of City economists by the Reuters news agency found that 65 out of 68 analysts expected another rate cut - with most forecasting a half a percentage point cut to 1% - in response to the growing recession .

"The reductions, from 5.75% prior to the run on Northern Rock in 2007 to 1.5% have seen incomes from savings drop by almost 75%, although the full impact of the base rate cuts has not actually been passed on to many savers," said Adrian Coles, director general of the BSA.

"A further reduction in interest rates now will make people even less likely to save and disrupt further the flow of funds into the mortgage market, which is already significantly short of lending potential," he warned.

Encouraging savers

Normally, lenders are in favour of lower interest rates as they make it cheaper to borrow and stimulate house buying.

However, the BSA argued that further cuts at this point would make no difference to the propensity of people to borrow in order to buy a home.

Mr Coles pointed out that the difficulty of saving a large enough deposit, and obtaining a mortgage, was now far more of a problem for potential house buyers than the cost of repaying the interest on their loans.

"The BSA's property tracker survey found that affording the monthly mortgage payments was considered a barrier to home purchase by 37% of respondents in December, down from 70% in June 2008 as interest rates fell," he said.

"However, concerns over getting a large enough mortgage or getting a mortgage altogether increased from 49% to 56% over the same period.

"We need to ensure that those with at least some capacity to supply funds for mortgage lending - personal savers - are encouraged to do just that, and that requires the MPC to refrain from making further cuts to the Bank Rate at least until the impact of recent reductions becomes clearer," he added.

No interest

Some borrowers will find they no longer have to pay any interest on their mortgages if the Bank Rate is cut to 1%.

The Cheltenham & Gloucester (C&G), one of the mortgage lending arms of Lloyds Banking Group, has 1,500 customers whose tracker deals are set at 1.01% below Bank Rate.

At first they will be charged at just 0.001%, to give the lender time to adjust its computer systems.

For someone with a £100,000 mortgage this would mean paying 8 pence a month in interest.

Then the customers will pay no interest at all, and will be repaid their small overpayment.

However, the C&G said it would not go as far as regularly repaying interest to these borrowers - a negative interest rate - as their deals have a "collar" that sets the minimum rate at 0%.

The Council of Mortgage Lenders (CML) recently advised borrowers who have seen their interest payments slashed to take advantage of this situation, by repaying their mortgages at their old, higher, rates and using the extra payments to pay off their mortgages early.