Inflation rising and effects on the mortgage.

tom1ie

Hi all,

Ive always heard that inflation rising is good if you have mortgage debt as:

Inflation allows borrowers to pay lenders back with money worth less than when it was originally borrowed, which benefits borrowers.

However if incomes do not rise but inflation does, how does this help with regards to paying back debt? (Assume a fixed interest rate on the mortgage for a number of years).

Should the above statement say inflation is good to combat debt as long as your wages are increasing also?

It's accurate to say that under inflation the debt is worth less than when it was borrowed; that's just the change in the ultimate value of the money.

But that's not to say that inflation "combats" debt, or "helps pay back debt". The monetary amount of the debt is the same.

silver2020

Usually inflation causes increase in earnings, hence cheaper to pay back.

tom1ie

https://www.boards.ie/discussion/comment/118501855#Comment_118501855

Yea but what if wages don’t go up. This would mean your buying power is reduced while you still have the same debt. Correct?

Raoul Duke III

The market value of the underlying asset (your house) will increase.

So even in your scenario of a fixed income, you are becoming richer. If your wages aren't going up in the current economy, you should move job.

TP_CM

In an inflating economy it would be highly unusual for wages to remain same over a long stretch of time such as a mortgage term of 10/20/30 years.

tom1ie

https://www.boards.ie/discussion/comment/118503283#Comment_118503283

The value of my house going up does not improve my liquidity though.

I can’t go and buy a load of bread on the back of my house value increasing.

tom1ie

https://www.boards.ie/discussion/comment/118503305#Comment_118503305

Yes but what about in a shorter time frame?

For example over 5 years.

For the next 5 years inflation increases, monthly repayments stay the same (fixed rate mortgage) wages do not increase due to employers not having the money to pay for wage increase.

Raoul Duke III

In the current economy, there is a shortage of labour in all sectors. Wages are rising strongly. So your scenario (I can't tell if its real or invented) shouldn't be an issue: if you can't get a suitable increase in your current job, then move job.

If your cash flow situation is truly constrained, then besides looking at the income side of your personal P&L, also review your spending and aim to trim the fat.

Thargor

Would people recommend going with a mortgage even if you had the cash in this situation then?

TP_CM

https://www.boards.ie/discussion/comment/118503330#Comment_118503330

That company should be putting their prices up like everyone else so they can increase the wage of their staff or their staff will leave to earn more money elsewhere. Is the company not earning more since prices have gone up? Aren't they growing with the increase in demand?

But either way, I think when they say this about inflation, they normally make reference to things like mortgages or long term loans for that very reason. There needs to be a passage of time for wages to increase to a level which really makes a dent in the fixed debt.

If wages remain the same during inflation, it doesn't matter if you have a mortgage or not - you're losing money relatively speaking.

jmlad2020

It's a suckers market

TP_CM

https://www.boards.ie/discussion/comment/118503448#Comment_118503448

The idea is that if wages go up you will be able to pay the debt off sooner therefore reducing the cost of borrowing. But if you can avoid the cost of borrowing altogether that's even cheaper than paying it off early with inflated wages. So, as long as you have the means to do so, it is normally looked upon as being a better option to pay for the house using cash, and go on to enjoy your inflating wages debt free.

Of course many also believe, and perhaps rightly so, that you could get a mortgage and be better off throwing that big lump sum into the stock market which should be growing strongly if the economy is expanding. Generally the return on some of the more reliable funds (about 10% per year) is greater than the cost of a mortgage (2 to 3% per year). Technically, after capital gains tax, and fund fees etc, you come out better off generally speaking. But for me, I prefer the less risky approach. 5% more money isn't worth the risk in my opinion. Though I'm aware well picked stocks can bring better returns than that.

dotsman

https://www.boards.ie/discussion/comment/118503654#Comment_118503654

5% of a difference every year, is phenomenal. The power of compounding sees to that. And the risk, when compared to overpaying a mortgage with 20-30 years remaining on it is pretty non-existent (the risks regarding stock market investment is poor investment strategy and short duration -> a well-balanced portfolio over 20+ years is as low risk as you can get). You also have the advantage of being able to sell your stocks at any stage should you require some/all of the money during your life (which is a very real need for many people). Overpaying your mortgage often means you are locked in and don't get the benefit until the end of the life of the mortgage (which typically coincides with the later stage of your life, after you have already been hit with the sudden and significant costs/loss of earnings that can happen over a person's working life).

As for the OP, as a general rule, yes inflation is good for mortgages. However, as with most financial concepts, it is over a period of time. Even if you, as an individual, don't get a pay rise in a given year; over a period of protracted inflation, you are likely to have your wages inflated at some stage. Especially when wage inflation is the most common factor in overall inflation. As already mentioned, besides your wages, the value of the property will likely also rise, while the amount owed stays the same (or decrease as your repay).

Ultimately, however, inflation is a very general term and concept. A country with 3% inflation doesn't really mean anything to an individual in that country. It all depends on what your proportion of spending is when compared to the basket the relevant statistician is using. Rents on advertised properties may inflate hugely over the space of a year, but that has zero impact on the vast majority of people, only those who are looking to rent a new property that year. Similarly with the price of purchasing a house etc. Therefore, in a given year, a person may be better off (as the things they spend their money on have actually decreased in price), while another has had a very tough year (as their 2-3 biggest expenses have increased dramatically), but the overall "average" cost of living has only increased 3%.

There is, however, one pitfall with relation to inflation for mortgage holders that hasn't ben mentioned here. The most common weapon used to combat inflation is to raise interest rates. If you have a significant mortgage outstanding, an increase of 1, 2 or 3% can have a profound impact on your monthly repayments (hundreds of euro per month). With the government borrowing like it is going out of fashion over the past number of years (€250 billion national debt and rising) and the ECB pumping out money to combat Covid, it is likely that this inflation will catch up with us, as will the corresponding interest rate rises in the coming years.

TP_CM

https://www.boards.ie/discussion/comment/118503783#Comment_118503783

But isn't there further reductions on that 5%. Like the effect of Inflation, 33% tax on earnings, and as you say probable increases in interest rates. And what if you need the money because the economy has turned, there has been a crash and stocks devalued. I suppose i've no doubt you'll likely end up with more money. But is it really that much more to be worth the risk? I'm not convinced yet and prefer to pay the mortgage off sooner for piece of mind. Maybe security is worth more than money to me at the moment.

dotsman

https://www.boards.ie/discussion/comment/118503814#Comment_118503814

But that 5% difference already takes into account the tax. And the impact of inflation is the same regardless of whether it is invested or whether it has been used to overpay a mortgage. As for taking out the money when the stock market is at a low point - yes, that should be avoided, but at least it is an option if you absolutely need it. But it is better to have the option than no option at all which is what happens when you overpay. And remember, most of the time over that 20+ year period won't be at a stock market low.

Ultimately, the question you have to ask is - what is the benefit of overpaying? What are you trying to achieve with your money? All you are doing is waiting 20 odd years to get a measly return. With stock market investment, you are getting a significantly higher return with the option of cashing in at any time you like.

It would be different if interest rates were much higher and/or there was only a few years left on the mortgage and you need the money immediately after the mortgage has been fully repaid. But other than that, I can't think of any scenario where overpayment is a good idea.

tom1ie

https://www.boards.ie/discussion/comment/118503963#Comment_118503963

When you overpay off the principle, you lower your monthly repayment as well as lower your debt.

If you are in a fixed rate for 5 years (but are allowed overpay your mortgage) would it not make sense to pay down your debt and lower your monthly repayments?

You would finish your mortgage earlier.

Also are we saying that higher inflation really isn’t a problem with regards to mortgage debt as we will get paid more anyway, which leads to more money in the economy which leads to higher inflation? (Also this is dependent on actually getting a pay rise).

timmyntc

https://www.boards.ie/discussion/comment/118504663#Comment_118504663

Higher inflation erodes debts in that it devalues them - it also devalues income, but typically incomes will rise to combat inflation (if they didnt rise you'd be worse off and more likely to change jobs etc)

This is different from asset inflation (house prices going up) which dont affect you as a mortgage holder, unless you choose to sell. Monetary inflation erodes debt (debt issued in the same currency, e.g. €) whereas asset inflation just pushes prices up, which typically dont benefit many people unless you have a 2nd property solely as an investment vehicle.

Pussyhands

OP, your saying only makes sense if the payment is a fixed interest rate. In America, 30 years fixed rate mortgages are common. Not even sure variable interest is a done thing there.

Low inflation (<2%) and low interest rates are very good for homeowners. The problem is when we have situations like now where the inflation level is too high. How is high inflation combatted? Through increasing interest rates. Higher interest rates mean increased repayments unless you are on a fixed repayment.

If someone gives me 50 euro today, that 50 euro is worth more now than 50 euro in 1 years time.

It's kind of true that you say, what if your wages don't go up, doesn't that not make any difference to you? Yes it's true. But if your wages are staying the same, you are essentially getting a wage cut. Because 25k you earn today is worth less than 25k you earned last year.

Look at it this way and use housing as an extreme example of inflation. Imagine you have 250k that is to be used only for a house.

Which of these options would you choose:

• Pay 250k for a house now
• Live in the same house as the above for free for 10 years and then pay whatever the price of the house is in 10 years using that 250k.

Hint, the 250k will not buy the house in 10 years.

TP_CM

https://www.boards.ie/discussion/comment/118503963#Comment_118503963

My mistake, I must have been half asleep when I started considering the tax implications after they were already factored in. Yes I do see/agree that investing an amount into a solid portfolio in the stock market would probably leave you in a better place financially, unless something incredibly bad happened right when you need the funds.

I'm just wondering, despite seeing the figures. I've decided to overpay massively on my mortgage so that I feel more free later to spend money on things like family hols and city breaks (or whatever) with the kids every month instead of paying that 1500 euro to the bank. If I continue to overpay, I should be mortgage free by the time the kids are 8ish which I think is a nice age to be able to do that. Despite it being financially better to throw lump sums into the stock market, I think I'll enjoy it more - taking an additional 1500 euro per month from my salary, than taking a 1500 euro amount out of an albeit growing stock market. Maybe it makes sense from that perspective?

I'm also not very keen on my job and can see myself either reducing my hours or changing occupation to something more fulfilling personally. So perhaps that's why I'm leaning more towards paying off the mortgage - to have the security and freedom to do all that without chipping away at any investments I have.

timmyntc

https://www.boards.ie/discussion/comment/118504989#Comment_118504989

If you would be earning more in future due to inflation aligned wage increases, then it makes more sense to pay extra off the mortgage then. yes stocks now is a good idea - however remember that stocks are risky, no matter how safe you play it you can always get burned.

If you were confident that inflation wouldnt be combatted with interest hikes, then you could look at actually acquiring more debt with the assumption inflation will erode the cost of borrowing, and your new inflation adjusted income would mean you could have more assets with less burden. But again very risky, interest rates can really screw you over.

tom1ie

https://www.boards.ie/discussion/comment/118504864#Comment_118504864

Agree with this.

As I said in my OP the scenario is being on a fixed rate mortgage.

So if wages aren’t going up but inflation is, you are worse off as you have less buying power.

Your debt repayments are still the same amount they were before inflation started rising, so inflation has no effect on the debt you owe if your wages don’t increase in line with inflation, would you all agree?

timmyntc

https://www.boards.ie/discussion/comment/118505577#Comment_118505577

Yes - however in nearly all circumstances wages will increase in line with inflation (often causing further inflation but sure)

tom1ie

https://www.boards.ie/discussion/comment/118506173#Comment_118506173

So in Ireland’s situation (and Europe’s) with inflation rising it stands to reason that wages will have to go up to keep pace.

However doing that would lead to more inflation due to more money in the economy etc etc

So to combat that interest rates have to increase to encourage people to save?

But if interest rates go up, obviously mortgage repayments go up which is good for no one except banks, right?

Raoul Duke III

Remember something: all of this has happened before, multiple times. And in the long run we still all got collectively richer.

It will be a shock for anyone under 35 or so when mortgage rates do eventually go up. We've all forgotten that zero rates are most definitely not normal.

tom1ie

https://www.boards.ie/discussion/comment/118508208#Comment_118508208

Absolutely agree. I remember my parents talking about 15/16% interest rates in the past.

Don’t think that’ll happen within the EU era though.

Jim2007

https://www.boards.ie/discussion/comment/118508208#Comment_118508208

Yep, doing leaving cert economics in 1981 - one of the figures I never forgot - inflation 20.37%! In Brazil in 1990 it was at 80%, when you got paid, you bought anything non perishable that was available and bartered it later for what you needed. 1994 in Turkey we had 105% and the price guide from the previous Sept was useless - you needed to multiple by 2, 3 or 4 depending on the goods.

Raoul Duke III

https://www.boards.ie/discussion/comment/118509163#Comment_118509163

I still have a brick of very large denomination Zimbabwean dollars from a visit there during their hyperinflationary period.

An interesting physical piece of monetary history!

timmyntc

https://www.boards.ie/discussion/comment/118507362#Comment_118507362

Kind of yes, as the price of goods goes up wages will have to increase to match or else youd soon struggle to live. We dont have supply issues with those types of things, so the price shouldnt rise infinitely - but yes wage increases across the board do generally cause further inflation, not necessarily infinite though.

timmyntc

https://www.boards.ie/discussion/comment/118508208#Comment_118508208

And in the long run we still all got collectively richer.

Well, not really

Richer in €s, not in purchasing power. Purchasing power is eroded by inflation, so even if you have more currency, you get the same or less than you did pre-inflation typically. Extra wage increases aim to match inflation (any extra increases are likely not because of inflation but just increases you get in the job in general, so would apply in 0 inflation scenario).

circadian

One thing I've noticed is the year on year average interest rates are dropping. I got my renewal a few days ago and it was a fixed rate 3.1% for 5 years, which at the time was a decent deal and was hard to see how it would drop much lower, but here we are. I'm guessing it has a lot to do with negative interest at the ECB.

The thing is, how long will we have these low interest rates and how low will they go? The same rate is now yielding 2.45% fixed for 5 years, I can't see it getting much lower than that.

Another thing, I want to do some more work on the property. I can't tell if this a reasonable time to remortgage and take advantage of the lower interest rates or not because the costing of materials is so high right now. I personally feel we're in a bubble and that it has to burst at some point in time and I really don't want to get caught out.

Raoul Duke III

https://www.boards.ie/discussion/comment/118510433#Comment_118510433

just to illustrate my point, have a look at this (key point it is adjusted for inflation):

timmyntc

https://www.boards.ie/discussion/comment/118512704#Comment_118512704

World GDP gains are mostly due to industrialisation of developing countries, and China in particular.

It is not a measure of mean or median purchasing power in any currency, nor the average wages in any country either. Totally meaningless as far as inflation making people richer goes

Raoul Duke III

https://www.boards.ie/discussion/comment/118512720#Comment_118512720

OK. Do you have such a graph showing the long-run trend in mean\median purchasing power?

Ideally for Ireland but any first world country should give similar results.

It's an interesting topic and one where the behavioural aspects (most people tend to say they 'feel' poorer) are not backed up by the hard quantitative ones.

tom1ie

https://www.boards.ie/discussion/comment/118512756#Comment_118512756

Is GDP skewed (in Ireland) due to the FMN effect? As in Facebook Microsoft etc running money through the economy which, for the large part, doesn’t make its way to the populous.

I was under the impression GDP was a bad metric for Ireland. Could be wrong though.

Timing belt

https://www.boards.ie/discussion/comment/118503783#Comment_118503783

If you are on a fixed rate mortgage for say 5 years at a low rate and you have inflation pushing up interest rates then you could find that once the fixed period ends that your monthly mortgage repayment increases significantly. On a mortgage of about 400k every 1% rise in rates will result in an extra 300 euro a month.

With regards the national debt the headline figure of 250bn is not what is important because the yield moves inversely to the Bond price. So the government could buy back existing bonds at a major discount reducing the headline figure and issue new debt to pay for this whilst still having the same cost of servicing the debt. (e.g. if bond prices dropped by 20% they could reduce the headline figure of 250bn down to 200bn more or less overnight)

dotsman

https://www.boards.ie/discussion/comment/118513020#Comment_118513020

Yes, they can reduce the debt somewhat using that tactic. However, that all expedites the move to the higher interest rate repayments as you are issuing new bonds at the high rate to buy back bonds at zero/low rates, so you solve one problem by introducing another (more immediate problem). I don't think you would be able to keep the total annual repayments the same, as there will be other factors influencing bond prices as well, especially since we can't balance a budget to save our lives and keep growing the debt. Add the risk of Sinn Fein getting into Government, and both debt and yields could explode!

Given governments' attitudes to current expenditure to put thing off on the long finger, they may prefer to pay half a percent on €50 billion (€250 million out of the budget expenditure) rather than 3% on €40 Billion (€1.2 billion of the budget expenditure!). But time will tell, as it is difficult to predict exactly what factors are going to come into play in the coming years and what impact they have on yields.

Timing belt

https://www.boards.ie/discussion/comment/118513535#Comment_118513535

I agree there are a lot of other factors that would impact the yield on government debt but if you just look at the rate increase just brought about by the central banks whether it is raising the ECB rate or undertaking QT. The par value of the debt that everyone quotes can become meaningless if rates rise as it will be substantially different to the market value of the bonds. What is far more important is the ability to service the debt by balancing the books.

The other thing that people forget is all the tax that has been warehoused as part of covid has not been written off and will be paid in 2 years time. This could be used to buy some of the debt at market prices and reduce the par value of the debt.

realitykeeper

The general concensus is that inflation is falling. In January 2023, Ireland`s year over year CPI was 7.8%. My own opinion is it will be higher (not lower) than that in January 2024. Will check back in a year to see what happens.

Danzy

https://www.boards.ie/discussion/comment/120283267#Comment_120283267

The rate of increase is not as fast as before.

It looks like it is improving, there are concerns that it might still be higher for longer.

walterking

https://www.boards.ie/discussion/comment/120283267#Comment_120283267

What is that based on?

I expect inflation to be under 3% on next January's read and its based on forward pricing of commodities which are the driver of inflation at present.

Forward contracts for oil, gas, coal, soy, butter, electricity, wheat, lumber, metal, steel are almost all substantially lower than 3, 6, 9 & 12 months ago. Some of this feeds in very quickly (oil), some much slower (coal). But it means that there's deflation in commodities. Also December and January inflation here was in negative territory. February is near certain to be similar, and March last year was over 2% for the month, so by April Irish inflation is near certain to be under 5% unless something dramatic happens in the next 4 weeks.

The move from 5% to 3% will be a lot slower and the move to under 2% slower too.

realitykeeper

https://www.boards.ie/discussion/comment/120296643#Comment_120296643

Even if inflation falls, it will be far too sticky to stop the interest rate hikes. I see energy prices rising because by winter`s end our reserves will be depleted and because we have alienated Russia, we must depend on more expensive energy from elsewhere. The US has also depleted it`s reserves in order to make inflation appear lower than it was and because someone blew up the Nord stream pipeline, we must rely on the US for LNG and oil products. Under the Biden administration, a lot of oil wells have been capped and if there is a shortage the US will satisfy their market before they satisfy ours.

You mentioned "inflation in negative territory" by which you mean dis-inflation. This is still far above 2%, and far above what savers get in the bank so there is no incentive to save. Spending is inflationary.

I also expect food prices to rise a lot this year due to fertilizer costs and regulations.

walterking

https://www.boards.ie/discussion/comment/120297145#Comment_120297145

Inflation for the 6 months August to Jan was 0.64% for the entire combined 6 month. The 1.4% monthly jump today surprised a loth of people as it was expected to be about 0.9% or less. (same as last Feb, so little overall change was expected).

March last year was 2.05%, so the initial print on 1st April will be of interest to many people. The March 2022 energy price hikes will be out of the equation and energy will definitely be in negative territory. Food is the unknown factor. Some input costs are down, (gas and electricity in particular) but the shortage of many crops in the last couple of weeks that has led to substantial fruit/veg increases which probably contributed to the February surprise.

realitykeeper

https://www.boards.ie/discussion/comment/120302006#Comment_120302006

The February inflation figure will be out tommow. Year over year inflation was 7.8% in January 2023. I expect it to be higher than that in January 2024. I will check in each month to see how things stand. Tomorrow will be interesting.

Timing belt

https://www.boards.ie/discussion/comment/120304036#Comment_120304036

The bond market says otherwise re inflation in 1 years time for the UK and USA with lower yields after the 1 year. Europe on the other is the same as today.

realitykeeper

https://www.boards.ie/discussion/comment/120304053#Comment_120304053

Yes the cost of government borrowing will increase when the bond investors realize the Central bankers misled them, either by incompetence or more likely because they are trying to keep bond yields subdued by saying how they are serious about raising interest rates. I think what will happen is bond investors will start demanding higher rates of interest as sticky inflation stays stubbornly high. If that happens, governments must either cut spending or more likely continue spending which will weaken their currencies which will fuel further inflation.

walterking

https://www.boards.ie/discussion/comment/120304036#Comment_120304036

The initial Feb figure was published yesterday. Surprised in the high side with 1.4% monthly increase v 0.9 last year, so .0.5% on the rolling annual figure. Fresh produce was the driver with some fresh foods up 20%+. This should be short lived as it is weather related. The big energy increases of last March will go ut of the equation this month, so that should see a negative print for March.

I'll lay a €50 donation to an animal charity that end of Jan 2024 will be under 3.5% 😀

tom1ie

https://www.boards.ie/discussion/comment/120306092#Comment_120306092

Will it be short lived though? The price of fertiliser, transport and diesel for agricultural machinery all still very high relatively speaking.

realitykeeper

https://www.boards.ie/discussion/comment/120306092#Comment_120306092

Okay February was round one. I win that round. Eleven more rounds to go until January 2024.

By the way, that rise in inflation came as no surprise to me. Our politicians are predicting lower inflation and central bankers are declaring their seriousness about fighting inflation because if bond investors were to know the awful truth about the higher inflation coming our way, bonds yields would have to rise, making borrowing more expensive for governments. Even if they were to fix the figures the way they want them, it won`t change reality in the ground.

If you look beyond the EU to countries that have had very high inflation like Lebanon, Turkey, Venezuela and Zimbabwe, the official inflation and the official exchange rate for hard currencies, has no relation to reality. In those countries, people buy hard currency on the black market. I am not saying the EU is in that league but if it were, there is every reason to believe the official inflation would be a lot lower than real inflation. And, why wouldn`t it be. No government wants to give itself a F in economics.

realitykeeper

Okay so Ireland`s CPI inflation rose only 1.1% in March which is less than the 1.6% it rose in February. Still, if inflation keeps rising by more than 1% every month, imagine how high Year-over-year inflation will be by January 2024. It would be well over 12%, if it keeps rising at that pace. Some posters here think it will be below 4% y-o-y but we are already up 2.7% in the space of 2 months.

Well, the inflation figure for April should be known early next week, so we will soon see how that looks.

walterking

https://www.boards.ie/discussion/comment/120535209#Comment_120535209

April initial estimate is -0.5% giving annual rolling rate of 6.3%