Beware of big debt and rising rates

A side-effect of the Celtic Tiger is that Irish people have an appetite for debt that would horrify most of their parents or grandparents.

Nowhere is this fondness for borrowing more apparent than in the housing market, where years of price increases have made buying property without a massive loan the norm. This need to borrow large amounts before buying property has fuelled massive growth in credit levels.

The Central Bank, which regularly expresses alarm at our willingness to get ourselves into the red, said last month that the value of outstanding mortgages was 27.3 per cent stronger in October than in the same month of 2003. This growth is high by any standards and illustrates the appeal that mortgage lending holds for banks and building societies.

This appeal is strong at a time of economic buoyancy, when the chances of a borrower defaulting are slim. It thus makes sense that competition and innovation in the mortgage market has been building over the past few years.

From the borrower's perspective, this market battle has been good news, since it forced lenders to make their mortgage offerings more attractive. The most fundamental benefit of this has been a reduction in the margins that lenders can charge on their mortgages. And since this has coincided with a move towards lower interest rates by the European Central Bank (ECB), the result for borrowers has been doubly positive. But there will always be further to go.

All lenders here make an effort to lure first-timers in their marketing campaigns, with all recognising that getting a borrower's business first-time will increase their chances of retaining a customer for life. So it will always be worth a first-timer's while to shop around for the best deal. Play one lender off against another to get the best value when seeking a loan. If one lender offers a free property valuation to first-timers, approach another lender to see if they can match the offer or lose the business.

First-timers should ask themselves whether they want to shop around for a mortgage or get a broker to do it for them. The main benefit of the latter will come in the absence of stress that it should deliver. Brokers will also claim to squeeze more out of a lender than a borrower would.

After working out how much you can borrow, the other two key components of the mortgage will be interest rates and the loan term. Our interest rates are set by the ECB at a monthly meeting. In simple terms, a booming economy will lead to higher rates while a sluggish economy calls for low rates. At the moment, the larger economies in the euro-zone are underperforming, but there are indications of a pick-up.

This means that rates are very low but are likely to go up before they go down. Economists differ on where rates might go in 2005 but most agree that there will be an increase before the end of the year. A safe bet would be to expect an increase of about 0.5 or 0.75 of a percentage point before the end of 2005, with the expectation of a little more in 2006. This would leave rates low by historical standards but would generate a significant increase in the cost of larger mortgages.

As far as terms go, consumers should always bear in mind that longer terms will cost more in the long run that shorter terms. Equally, a term of 20 years will carry higher monthly repayments than a term of 30 years, and thus may be of less interest to cashflow-aware first-time buyers.