On the agenda: the bill that may revolutionize mortgage interest rates

In 2022, the interest rate in the economy soared, and the mortgage payments jumped by hundreds of shekels and more per month. A bill that is gaining traction these days aims to dramatically change the banking law. According to the proposal initiated by the Chairman of the Finance Committee (Member of Knesset Gafni), restrictions will be placed on the banks regarding their ability to raise mortgage interest rates in the future. Although it seems that this is a positive step, it may cause some very difficult effects, both on the economy and on the public.

Will the bill to freeze mortgage interest rates pass?

Will the banks subsidize the interest rate increases?

Knesset member Gafni’s bill comes after many months of rising interest rates . From a level of zero interest at the beginning of the year, the Bank of Israel’s interest rate reached a level of 3.25 percent at the end of November. Therefore, the prime interest rate rose to 4.75 percent. The bill, which some were quick to call populist, rests on a real difficulty that arises from the public. A significant percentage of mortgage borrowers who chose to focus on the prime route feel the full impact of the increase in interest rates, which translates into a jump in mortgage repayments. In other words, the banks very quickly pass on the interest rate increase to the mortgage payers and this, by the way, is in contrast to the situation with deposits (here the banks raise the interest they pay, bit by bit and partially).

The bill seeks to introduce changes in the banking law, in a way that will impose restrictions on the mechanism for changing the bank interest rate on mortgages. At this point, the restriction means that in the year in which the interest rate increases by more than one percent (1%) per year, the banks will absorb half of the interest rate increase. But does a law have the power to drop a bomb of this type, without the banks reacting to it? If the law does pass, the banks have different options, because they are not designed to subsidize costs for the customer base. One of them, and not the only one, will be pre-pricing of new mortgages. They will be able to do this for example by restricting new mortgage mixes. New borrowers may be able to get less of a prime mortgage, at the expense of mortgages with a fixed interest rate (and higher than the first moment).

What do the Bank of Israel think about the bill?

In closed discussions, the Bank of Israel believes that the law brings with it great problems in several respects. For example, the law not only imposes restrictions on the banks in a way that supposedly protects the public. The law also limits the ability of the Bank of Israel to influence, if necessary, the macro level of the economy. The Bank of Israel strives for stability, which is also intended to protect the public from losing economic control. The increase in interest rates in the economy is intended, among other things, to curb inflation and cool the level of housing prices. The same price increase that applies to many products, includes the spike in the price of real estate in the last year. Although the freezing of interest rates is intended to prevent sharp increases in the monthly repayment of mortgages, this may return as a boomerang effect in the form of fueling the continued rise in housing prices.

As data from the last few months show, the pace of taking out new mortgages has dropped drastically. In November 2022, the rate of new housing loans dropped by almost a third compared to November 2021. This reduction is reflected in the cooling of the boiling housing market, in a manner designed to reduce housing prices. Severing the connection between the Bank of Israel’s interest rate decisions and mortgage interest rate changes weakens the Bank of Israel’s power as a restraining factor. This could fuel price increases in the housing industry and beyond. By the way, an increase that will of course affect everyone who took index-linked mortgages.

The law discriminates between borrower and borrower

It should be noted that although various parties doubt the power of the law to pass, no one will commit to it. It is possible that the law will be passed after the introduction of a set of changes and it is possible that it will be passed as it is. In any case, the bill is submitted to the chairman of the Knesset’s finance committee, who these days is recruiting more supporters for the law.

But it should be noted that the law, which in essence is meant to make things easier for the public, discriminates against different groups of borrowers and mainly hurts mortgage takers who behaved very responsibly and chose a solid mortgage mix. Risk lovers showed a preference for prime routes and variable interest rates. These are the routes that are characterized by a cheap interest rate at the beginning, but one that jumps sharply during periods of interest rate changes. In contrast, the solid (or risk averse) preferred more fixed interest mortgages. These are higher interest rates, but designed to ensure “peace of mind” on days when interest rates rise.

Now the legislator has come and actually wants to propose a safety net, which will be balanced between borrower and borrower. Holders of fixed mortgages, for whom the mortgage mechanism does not change with interest rate increases, will not benefit from the benefit of the mortgage interest freeze. Those who chose a more risky and volatile mortgage will receive a chopper from the state in the form of frozen interest rates. Is it true, proper and just? Judge for yourself.

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