The Interest-Rate Exposure of Danish Homeowners

Greater indebtedness and increasing use of adjustable-rate loans generally make Danish households more vulnerable to rising interest rates.

The analysis below shows that the interest burden of the average homeowner declines with rising income, which means that low-income homeowners are more vulnerable to adverse economic developments. On the other hand, homeowners in the high-income brackets have a higher ratio of adjustable-rate loans. The average change in interest expenses as a ratio of income following an increase in interest rates is almost the same for all income brackets. On average, the interest expenses of Danish homeowners increase by 1 per cent of gross income if the short-term interest rate goes up by 1 percentage point. However, there is considerable dispersion, and many homeowners have interest-rate exposure of more than 2 per cent.

The loan-to-value ratio for the individual homeowner depends on the geographical development in housing prices, as well as age and income. First-time buyers and low-income homeowners thus have the highest average loan-to-value ratios. Homeowners in Greater Copenhagen and Northern Zealand have the lowest loan-to-value ratios, but the highest debt-to-income ratios.

In Greater Copenhagen, Northern Zealand and Eastern Jutland, including Århus, homeowners have higher mortgage debt as a ratio of income than in the rest of Jutland and Zealand as well as Funen and Bornholm. This is to a large extent attributable to the geographical bias in the development in housing prices, with large increases particularly in Greater Copenhagen, Northern Zealand and Eastern Jutland, including Århus. The average housing debt of homeowners in the municipalities of Copenhagen and Frederiksberg is 2.8 times the annual household income, cf. Table 5.

No clear link is seen between the loan-to-value ratio and the choice of mortgage-credit loan type. However, homeowners with a high loan-to-value ratio are more likely to opt for deferred amortisation.

Not surprisingly, the loan-to-value ratio is highest among the youngest homeowners and generally falls as people get older. Geographically, the largest dispersion in the loan-to-value ratio is seen in Northern Zealand and the suburbs of Copenhagen, cf. Table 7.

LOAN-TO-VALUE RATIO BY GEOGRAPHICAL LOCATION, END-FEBRUARY 2005			Table 7
	Per cent
Geographical location	Average	25th percentile	75th percentile
Copenhagen and Frederiksberg	60.9	53.5	70.6
Northern Zealand and suburbs of Copenhagen	64.3	58.2	72.5
Bornholm	68.8	62.3	76.9
Rest of Zealand and surrounding islands	65.8	59.8	73.9
Funen and surrounding islands	65.6	60.4	72.6
Southern Jutland	66.2	61.6	73.2
Central and Western Jutland	68.2	63.6	75.2
Eastern Jutland, incl. Århus	65.8	60.4	73.1
Northern Jutland	66.2	61.6	73.5
Note:   The loan-to-value ratio is calculated for the outstanding debt as a percentage of the real-estate value as estimated by Nykredit. Normally, no income details are required for mortgage-credit loans of less than 60 per cent of the real-estate value, which adds a selection bias to the loan-to-value ratios, cf. Box 10. Source: Nykredit and own calculations.

Interest expenses and burden
As Chart 39 illustrates, the average annual interest expenses before tax for mortgage-credit loans rise with income. The interest-expense percentiles also show that the variation is greater in the higher income brackets.

DANISH HOMEOWNERS' INTEREST EXPENSES BEFORE TAX, END-FEBRUARY 2005	Chart 39
Note: The interest expenses relate to mortgage-credit loans in mortgage-credit institutes only and do not include interest expenses for other debt, etc.
Source: Nykredit and own calculations.

The interest burdens of the individual households, defined as annual interest expenses as a ratio of gross income, are shown in Chart 40. Households with annual income of less than kr. 250,000 spend a larger proportion of their income on interest than the other income brackets. The Chart also shows a clear link between average interest burden and household income. The interest burden falls with rising income, and consequently homeowners in the lower income brackets are more vulnerable if their incomes decline, e.g. as a result of unemployment.

DANISH HOMEOWNERS' INTEREST EXPENSES AS A RATIO OF GROSS INCOME, END-FEBRUARY 2005	Chart 40
Note: The interest expenses relate to mortgage-credit loans in mortgage-credit institutes only and do not include interest expenses for other debt, etc.
Source: Nykredit and own calculations.

On average, a change in the short-term interest rate will therefore have a greater impact on the interest expenses of the higher income brackets. In addition, adjustable-rate loans tend to be more popular among young borrowers and among homeowners in Greater Copenhagen and in Central and Western Jutland.

Table 9 shows the average change in interest expenses for Danish homeowners if the short-term interest rate goes up by 1 percentage point. In this context, the short-term interest rate is defined as the rate of interest on an adjustable-rate loan, irrespective of the fixed-interest period. Table 9 shows that the change in interest expenses increases with income. In a financial stability perspective, this is positive since homeowners in the low-income brackets have a higher income burden from the outset, cf. Chart 40.

This means that in spite of the differences from one income bracket to another, the interest-rate exposure is virtually the same for all income

brackets. On average, homeowners' interest burden will increase by approximately 1 percentage point if the short-term interest rate goes up by 1 percentage point. In other words, the adjustable-rate debt matches the gross income on average, but there are large dispersions within and between the different income brackets, as well as geographically, and many homeowners have an interest-rate exposure in excess of 2 per cent.