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Who’s repaying a mortgage loan is passing through hard times, also in Europe, with interests that are rising even if European Central Bank did not rise rates. Why is this happening? And what about the future?

First of all, ECB determines Main Refinancing Operation rate, that is the interest rate at which ECB lends money to other banks. This interest rate is a monetary policy instrument, since banks will need to lend money to their clients at an interest rate not less than ECB rate, otherwise they will incurr into a loss.

But this is usually only an indirect reference for calculating an Adjustable Rate Mortgage (ARM) interest rate. In Europe the reference rate for ARM mortgage is the Euribor rate. Euribor (Euro Interbank Offered Rate – it is a trademark of Euribor FBE) is the rate at which euro interbank term deposits within the euro zone are offered by one prime bank to another prime bank. Simply said, it is the interest rate at which banks lend money each other.

Why did Euribor rate rise? There are two explaination:

  1. Many banks are short on liquidity, so they ask for money. An higher demand of interbank loans implies a rise in their price (i.e. the interest rate).
  2. As a consequence of the “storm” on credit, confidence in the bank sector diminished, even by the bank themselves. In other words, bank trust each other less then before, and therefore apply each other an higher interest rate to compensate an higher perceived risk.

While one may find worrying that banks do not trust each other, this should be a relatively small situation, and in some months the Euribor rate will go back to normal levels, more linked to central bank rates.

In the long term, intrerest rate trends will be strongly (and inversely) linked to economic growth: if the credit crisis will have relevant negative effects, central banks will probably cut interest rates. That will be an advantage for who’s repaying a mortgage loan, but personally I don’t think it’s enough to hope in a recession…

Original post (in italian): E chi adesso sta pagando un mutuo?

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