Last updated: May 06, 2024

A guide to inflation: Understanding its impact on mortgages

Michael Harms AFPS
Director & Chartered Financial Planner at Mortgages for Doctors

A guide to inflation: Understanding its impact on mortgages

Inflation, the general increase in prices and fall in the purchasing value of money, is a key economic factor that affects various aspects of our lives, including the housing market and mortgages.

This guide aims to shed light on how inflation impacts the mortgage landscape, providing valuable insights for potential homeowners and investors.

UK inflation unexpectedly increased to 4% in December, for the first time in 10 months, so what does this mean?

What is Inflation?

Inflation is measured by the increase in the prices of goods and services over a period of time. It's often expressed as a percentage, indicating how much prices have risen over a year. Central banks and governments keep a close eye on inflation rates, as they are a crucial indicator of economic health.

Inflation and Interest Rates

One of the most direct ways inflation impacts mortgages is through interest rates. Central banks often adjust benchmark interest rates to control inflation. When inflation is high, interest rates are usually raised to cool down the economy. Conversely, in times of low inflation, interest rates might be lowered to encourage borrowing and spending.

Impact on Mortgage Rates

  • Fixed-Rate Mortgages: If you have a fixed-rate mortgage, inflation won’t immediately affect your monthly payments. However, when it’s time to renew or refinance, you might face higher rates if inflation has led to an overall increase in interest rates.
  • Variable-Rate Mortgages: These are directly affected by changes in the benchmark interest rates. Higher inflation can lead to increased rates, and therefore higher monthly payments.

Inflation and House Prices

Historically, periods of high inflation have often seen an increase in property prices. This is because, as the value of money decreases, tangible assets like property can become more attractive investments. However, this isn’t a universal rule and can vary depending on other economic factors.

Inflation and Buying Power

Inflation can erode purchasing power, meaning the amount of property you can buy for the same amount of money decreases over time. This is particularly important for savers and those accumulating a deposit, as their savings might not grow at the same rate as inflation.

Strategies to Mitigate Inflation Impact

  1. Fixed-Rate Mortgages: Opting for a fixed-rate mortgage can protect you from short-term increases in interest rates due to inflation.
  2. Overpaying Mortgages: If possible, overpaying your mortgage can reduce the total amount of interest you’ll pay and can be a hedge against future inflation.
  3. Diversify Investments: If you’re saving for a deposit, consider diversifying your investments to include some that might keep pace with or exceed inflation.

Understanding inflation is crucial for anyone involved in the mortgage market. While it can lead to higher interest rates and reduced buying power, being aware of its effects and planning accordingly can help mitigate these impacts. As always, it’s advisable to seek advice tailored to your personal circumstances when making significant financial decisions – please get in touch if you’d like to chat.

Remember, knowledge is power, especially when it comes to navigating the complexities of the mortgage landscape in an inflationary environment.

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