Rising interest rates could create some “winners” among the younger generations, including aspiring first-time buyers and pension savers, according to a think tank.
The Resolution Foundation argued that a “new normal” of higher rates could end a 40-year wealth boom that has been a key driver of intergenerational inequality.
Surging house prices and pension values have largely benefited older generations, while many younger people have been locked out of home ownership altogether, it said.
The Bank of England base rate currently stands at 5% and further rate rises are expected as the Bank tries to quell stubbornly high inflation.
There have already been signs of house prices dipping as rising mortgage rates cool the market.
The foundation’s Peaked Interest? report – part of a partnership with the abrdn Financial Fairness Trust – looked at what higher rates could mean for living standards and wealth accumulation in the future.
It said there could be winners, as well as losers, if higher rates are sustained.
Persistently higher interest rates could have two key long-term effects – lowering house prices and making it easier to achieve a decent standard of living in retirement by raising rates of return on pension savings, the foundation said.
Although rising rates are squeezing mortgage holders, falling house prices could benefit prospective house-buyers.
Sliding property prices could reduce house price-to-earnings ratios to levels not seen since the turn of the century, according to the foundation, which is focused on improving living standards for people on low to middle incomes.
The deposit barrier for first-time buyers could be reduced.
Back in the mid-1990s, it would have taken a typical young, first-time buyer couple around eight years to save for a 10% deposit on an average first-time home.
Rapid interest rate rises have ended this boom and brought about the biggest fall in wealth since the war, of £2.1 trillion— Ian Mulheirn, Resolution Foundation
This figure has risen to 14 years, but could potentially fall back to around 10 years, the foundation suggested.
While rising rates add to the cost of repaying mortgages, the foundation said this could be more than offset by a lower level of borrowing needed to buy a home, reducing the overall lifetime cost of property ownership for new buyers.
Looking at pensions, the foundation said that in the pre-pandemic world, a typical worker would need to save around £5,000 a year to achieve an income in retirement worth two-thirds of their income prior to retiring.
But with higher interest rates, the same worker would need to save around £3,000 to achieve that same standard of living in retirement, potentially making it easier for younger cohorts to save sufficiently to enjoy decent living standards in old age.
Report authors cautioned however that millions of people are still under-saving for their retirement, and that minimum contribution rates into pension schemes will still need to rise, but by far less than in a low interest rate situation.
Researchers also noted that the current rate-rising cycle could be a “blip” in an ongoing long-term trend towards lower interest rates.
In such a scenario, wealth could continue rising and reinforce, rather than reverse, generational strains, they argued.
In these turbulent times, when assets have tended to held by older generations, we may see rising interest rates reversing the growth in wealth gaps— Mubin Haq, abrdn Financial Fairness Trust
Ian Mulheirn, research associate at the Resolution Foundation, said: “Over the past four decades wealth has soared across Britain, even when wages and incomes have stagnated. But rapid interest rate rises have ended this boom and brought about the biggest fall in wealth since the war, of £2.1 trillion.
“Those with significant mortgages will be hit by these major changes. But there are winners too from a shift to a world of higher rates and lower wealth.
“Higher returns will make it far easier for younger people to save for a pension that delivers a decent standard of living in retirement, while lower house prices will make it easier for younger generations to get on the property ladder and others looking to trade up.
“The future path of interest rates is very uncertain. The current surge could be a blip, or herald a new era for the UK. Either way, policymakers should focus more on whether and how to insulate households from wild swings in their fortunes from these forces well beyond their control.”
Mubin Haq, chief executive of abrdn Financial Fairness Trust, a charitable trust, said: “The short-term pain of higher interest rates for mortgage holders could also mean a longer-term gain for young people hoping to buy their own homes and saving for their pensions.
“Both become more affordable and allow for a fairer sharing of wealth. In these turbulent times, when assets have tended to be held by older generations, we may see rising interest rates reversing the growth in wealth gaps Britain has seen over recent decades.”
