What happens when mortgage interest-rates fall to 0%?

A feature of the credit crunch era has been the way that in the end monetary policy has come down to two things. Pumping up the housing market and house prices in particular ( The Wealth Effects! The Wealth Effects!) and more recently financing government borrowing. Both conveniently support The Precious via the way that asset prices are driven higher in this instance house and bond prices. There has been news on that front this week from Denmark.

The country with the longest history of negative central bank rates is offering homeowners 20-year loans at a fixed interest rate of zero.

Customers at the Danish home-finance unit of Nordea Bank Abp can, as of Tuesday, get the mortgages, which will carry a lower coupon than benchmark U.S. 10-year Treasuries. ( Bloomberg)

For newer readers who may be wondering why Denmark? Well Bloomberg gets to that as well.

Denmark stands out in a global context as the country to have lived with negative central bank rates longer than any other. Back in 2012, policy makers drove their main rate below zero to defend the krone’s peg to the euro. Since then, Danish homeowners have enjoyed continuous slides in borrowing costs.

So in the round we return to part of yesterday’s theme as the monetary push from the European Central Bank is the same as a super massive black hole which via the pegged exchange rate sucks Denmark along with it. This led it down an odd road back last March.

Effective from 20 March 2020, Danmarks Nationalbank’s interest rate on certificates of deposit is increased by 0.15 percentage point. The monetary policy spread to the euro area is thereby narrowed from -0.25 to -0.10 percentage points, remaining lower than the rate in the euro area. In the context of Denmark’s fixed exchange rate policy, the interest rate increase follows Danmarks Nationalbank’s sale of foreign exchange in the market. ( Nationalbanken)

The increase to -0.6% came about because of pressure on the Kroner.

 it was caused by Danish institutional investors selling kroner in response to a decline in the value of their foreign
assets.

There is now something of a swerve because in the past an increase in the official interest-rate would raise mortgage rates but as central banks learnt early in the credit crunch the world was spun on its axis a bit.

Homeowners have increased their fixed-rate mortgage loans significantly in recent years. During the
last 12 months, new fixed-rate mortgage loans of kr.
134.7 billion have been disbursed.

That was from the Nationalbanken at the end of last September and there is more below.

More than half of the Danish homeowners’ total
mortgage loans of kr. 1,712 billion is now again with
a fixed interest rate, more precisely kr. 856.6 billion.
The last time fixed-rate loans accounted for more
than half of the loans, was in 2009. The lowest level
was in 2012 with just 31.5 per cent.

So we see that the interest-rate cut into the icy world of negative rates back in 2012 probably had an impact because of the predominance of variable rates back then, but now for the reason below fixed-rates have become more popular.

The appetite for fixed-rate loans has increased in line
with the declining interest rate, differentiated administration fees, and the narrowed gap to the variable
interest rate.

The actual market

If we go to Finance Denmark we see that whilst interest-rates have been trending lower there is still quite a gap between short and long ones. For example the short bond mortgage rate is -0.55% and the long bond mortgage rate is 0.94%. But the gap has been narrowing as the long bond rate was over 3% in 2015 whereas the short one went negative then.

What about mortgage borrowing?

This has done this according to the Nationalbanken.

The Danes’ total mortgage debt has grown by 4.0
per cent in the past year, and the debt has increased
in 91 of 98 municipalities. The largest lending growth
is in Glostrup with 7.3 per cent.

The borrowing rise in new terms will be higher because some have chosen to repay more.

In the last four quarters, households have increased
the repayments on their mortgage loans by kr. 998
on average per borrowed million……..The Danes have repaid kr. 6.0 billion on fixed-rate loans in 3rd quarter 2020, while the repayments on variable-rate loans were kr. 4.4 billion……… They have so far repaid kr. 30.8 billion in
2020.

So as so often we see two different behaviours. Some are borrowing more but others are using this as an opportunity to repay. So greed and fear are co-existing.

House Prices

The official data gives us a clue but not a lot more. The latest reading is for the second quarter of last year and it was rising ever since it was set at 100 in 2015 to 120.4.We can set another benchmark I guess as the index had fallen to 85.7 as 2012 began and Denmark prepared for negative interest-rates.

There is a monthly price index for single family houses which showed at annual rate of increase of 4.6% in September which is quite a rise from the -0.2% of March as the pandemic hit.

As to the overall situation prices are now much higher than September 2016 when the central bank announced this.

COPENHAGEN (Reuters) – A housing bubble is looming in Copenhagen, inflated by Denmark’s record-low interest rates, the central bank said on Wednesday.

Comment

There are other issues here and those of you with a sense of deja vu may be thinking of June 14th 2016.

Hans Peter Christensen got some unusual news when he opened his most recent mortgage statement. His quarterly interest payment was negative 249 Danish kroner…. Realkrdit Denmark, one of the nation’s largest home lenders, provided 758 borrowers with negative interest-rates last year.

That is when we on here first covered negative mortgage rates in Denmark. Or maybe you are thinking of August 2019 and this?

In the world’s biggest covered-bond market, a Danish bank says it’s now ready to sell 10-year mortgage-backed notes at a negative coupon for the first time

Actually I noted this back then.

Since then things have taken a further step as Nordea has started offering some mortgage bonds for twenty years at 0%,

So we can say that whilst we need care as there are often admin fees on mortgages which mean the headlines are misleading that 0% mortgage rates lead to higher house prices. They are also associated with more debt.

However, over the past four decades,
debt has increased significantly faster than incomes
and today accounts for 260 per cent of the disposable
income of Danish households ( Nationalbanken)

Whilst some are repaying as we observed earlier others seem much less keen.

At the end of 3rd
quarter of 2020, 59.8 per cent of the variable-rate
loans are, however, interests-only.

Also they borrow for a long time in the mortgage market.

Long remaining maturity is a particular characteristic
on Danes’ mortgage debt. At the end of the 3rd
quarter of 2020, the remaining maturity of 59.9 per
cent of all Danes’ mortgage debt was between 25
and 30 years. Approximately half of the outstanding
debt is in the form of 30-year loans disbursed within
the past year, either as new loans or as refinancing
of existing loans to new loans with 30-year maturities. ( Nationalbankem)

I remember another country which went down that road as we mull whether Denmark is catching the vapors.

I’m turning Japanese
I think I’m turning Japanese
I really think so

 

Can negative interest-rates prevent a recession in Denmark?

One of the features of the response to the credit crunch was a general reduction in interest-rates. This was followed later by Quantitative Easing and around the Euro area in particular by further reductions in interest-rates. This was evidenced by Denmark where its Nationalbanken cut its current account rate to 0% in June 2012 where it remains. Even more so by its certificate of deposit or CD rate which moved into negative territory in July 2012 at -0.2% and is now -0.65% having been as low as -0.75%. So after raising interest-rates almost unbelievably as the credit crunch hit the Nationalbanken became an enthusiastic cutter of them and before we get to the impact on the Danish economy we need to remind ourselves that there is an external or foreign restraint at play here.

Denmark maintains a fixed-exchange-rate policy vis-à-vis the euro area and participates in the European Exchange Rate Mechanism, ERM 2, at a central rate of 746.038 kroner per 100 euro with a fluctuation band of +/- 2.25 per cent.

So it is no great surprise to note that Danish interest-rates were in effect sucked lower by the impact of Mario Draghi’s “Whatever it takes ( to save the Euro) speech and policies. Of course all interest-rate policies have external and internal economic implications but when you have such an explicit one the external takes over at times of stress. For choice I would call it a pegged currency rather than fixed as whilst it is unlikely it could more easily change the rate than it could leave the “irreversible” Euro if it had joined it. Anyway here is how the Nationalbanken  reviewed events back in the summer of 2012.

For the first time in its nearly 200-year history, one of Danmarks Nationalbank’s interest rates is negative. Negative monetary-policy interest rates are also unique in an international perspective.

They were not lonely for long!

The economic situation

At the end of last month the Nationalbanken told us this.

The Danish economy is in a boom where the
growth outlook is slightly better than the potential……. There is consensus that labour market
pressures will intensify.

We get the picture although the discussion with the Danish Economic Council did have something from the left field.

In addition, the calculation assumes an increase in the retirement age by 12 years relative to today.

Really? It seems for best that they think that the public finances are in good shape. Although I note that the enthusiasm for easy monetary policy does not spread to fiscal policy.

This should not be perceived as scope for fiscal policy accommodation within a foreseeable time horizon. The cyclical position must be taken into account.

Returning to the economic situation we were told this back in March.

The upswing continued in the 2nd half of 2017 and the Danish economy has now entered a boom phase. Labour market pressures have increased, but so far the upswing has been balanced.

That is Danmarks Nationalbank’s conclusion in a new projection of the Danish economy, in which growth in the gross domestic product, GDP, is expected to be 1.9 per cent this year, 1.8 per cent next year and 1.7 per cent in 2020.

We need a caveat for those who think that these days we need recorded growth of 2%  per annum just to stand still but Nationalbanken Governor Lars Rhode is not one of them.

The Danish economy is booming

In fact the outlook is so good that the brakes may need to be applied although it is revealing that Governor Rhode seems to have forgotten that the task below is usually considered to be the role of monetary policy because it is more flexible.

So the government should be prepared to introduce preventive fiscal tightening at short notice if there are signs that the economy is overheating.

The boom

We get a new perspective on the concept of boom if we note that at current prices the GDP of Denmark was 537.9 billion Danish Krone in the first quarter of 2017 and 537.3 billion in the first quarter of this year. This was driven by this.

Gross domestic product fell 0.6 percent in the third quarter from the previous three-month period, Statistics Denmark said on Thursday ( Bloomberg).

In fact we know that on the measure looked at above it fell by 0.8% and unknown to Bloomberg back then it had also fallen by over 1% in the second quarter so there had in fact been a recession in the boom. How can this be? Well there was an element of the Irish problem.

The reason is primarily a large payment of a Danish owned patent which is temporarily accounted for as service exports in Q1 2017. That leaves Q1 GDP at a massive 2.3% q/q growth and Q2 at -1.2%. Q3 turned out even worse than previously suggested at -0.8% but it is largely attributed to negative stock building and the above mentioned sudden stop in car sales. ( Danske Bank ).

This meant that if you looked at 2017 as a calendar year things looked like a boom. From the Financial Times.

Gross domestic product increased 2.1 per cent for the year overall, the country’s best performance since 2006. Jan Størup Nielsen, chief analyst at Nordea, said the country is now “running at full capacity” for the first time in 10 years, and said the solid performance “will likely continue in 2018”.

Yet if you look from the latest data then the economy is smaller than a year before! If we move to the cause here is the likely factor.

However, most of Denmark’s most valuable patents are held by pharmaceuticals companies and several economists pointed to a payment made to Danish group Forward Pharma last January. Nasdaq-listed Forward received a $1.25bn payment from US biotech Biogen as part of a dispute over patents for multiple sclerosis treatments. Forward chief executive Claus Bo Svendsen said the data showed “a nice time-wise correlation with our deal with Biogen”.

House Prices

From the Nationalbanken.

As a result of the gradual shift from bank loans to
mortgage loans in recent years, mortgage lending
continues to drive lending growth.

They will need to drive it a bit faster as at the end of 2017 there was a dip in house prices after a spell of rises which in the light of the negative interest-rates era you may not be surprised to learn began in 2012.  The 85.7 of the index was replaced by 111 in the autumn of last year but it ended the year at 109.1 . Like many capital cities Copenhagen is now under much cooler pressures than were seen before.

Comment

Let me open with this from Bloomberg yesterday.

In the world-record holder of negative rates, there’s been another eye-catching development.

Danes are richer than ever before, according to central bank data on savings and home equity. But they’re spending less, in relative terms. The gap between private consumption and household wealth is the biggest it’s been in three decades.

Those familiar with my analysis will not be surprised unlike those Bloomberg go on to quote. This is because there is a large group of losers as those who do not own property face inflation which does not show up in the Consumer Price Index which is at 102.2 compared to 100 in 2015. Whereas the winners are really only those who have sold and made a profit or more implicitly those who have used higher prices to borrow more.

So wealth is not what is used to be as we get another reminder that GDP isn’t either.

Though private consumption did inch up 0.9 percent in the first quarter, it wasn’t enough to prevent the economy from shrinking on an annual basis.  Danske says GDP growth this year probably won’t exceed 2 percent.

Furthermore will Denmark be influenced by the slowing in the UK and Euro area and with interest-rates already negative how would it respond in such a scenario?