Even if interest rate reductions begin, their installment will decrease by a minimal amount in euros, and the difference in the monthly installment for borrowers will be small.
After March 2023, the European Central Bank (ECB) proceeded with four increases, totaling one percentage point, with the lending rate peaking in September at 4.5% and the quarterly Euribor hovering just below 4%.
Therefore, interest rates should be reduced by more than one percentage point, meaning four times if the reductions are in the order of 25 basis points each for those with mortgage loans to see a reduction in their installment.
Excluded from this reduction are borrowers who chose to convert the variable interest rate to fixed, resulting in their installment remaining constant for as long as they have locked in the fixed rate.
The speed at which the ECB will “run” the interest rate reduction (so far there have been ten increases) will also be evident in the relief of installments.
For example, if the remaining balance of the mortgage loan is €200,000 and the repayment period is 20 years, the installment with an average interest rate of 7% is €1,552.
If the board decides that there are reasons for a relaxation of monetary policy and the interest rate is conservatively reduced for the first time by 0.25%, then the installment will decrease slightly to €1,522, i.e., only by €30. In the case where the interest rate reduction is 0.50%, then the installment will decrease to €1,493.
In July 2022, when the interest rate increases began as a measure to curb inflation, interest rates were at zero and the average borrowing cost was 2.5%, meaning an installment of €1,060.
Therefore, from July 2023, the monthly installment with a variable interest rate has increased on average by €492, and it will take a long time for borrowers to return to installments by the end of June 2022 when interest rates were negative.
According to Bloomberg, economists’ forecasts for their reduction by mid-2025 vary significantly, from 75 basis points (to 3.75% for the lending rate) to 250 basis points (to 2%).
Some believe that the central bank will reduce interest rates by 25 basis points at each meeting starting from June this year, while others believe it will reduce them every other meeting. In the first scenario, which is the best, borrowers will see the first reduction in their installment at the end of 2024.
The ECB’s strategy will depend on the balance it will strike between the pros and cons of a rapid reduction in interest rates and a slower reduction thereafter, on the one hand, and a delayed initial reduction accompanied by faster reductions thereafter.
Last week, Italian central banker and ECB board member Fabio Panetta argued that the ECB should soon start reducing interest rates and noted that timely, gradual action is better than delayed, aggressive moves.
He also argued that concerns about the “last mile” and the core of inflation are unjustified. And he justified his opinion by estimating that it is unlikely for a wage-price spiral to occur, while the cost of transmission from the crisis to the real economy has limited impact.
The moment for the ECB to reduce interest rates is “approaching quickly,” and timely and gradual steps could contribute to reducing subsequent volatility in financial markets and the economy, said the top policymaker.
According to data provided by the Central Bank, the largest part of the portfolio (83% of the total loan portfolio) has been granted with variable interest rates, with 50% of the loan portfolio being linked to the ECB’s key interest rates and the Euribor rate.
This share of the portfolio is directly affected by changes in the cost of borrowing, also due to the recent increases in the ECB’s key interest rates during the second half of 2022 and the first quarter of 2023.
Thirty-three percent of the total loan portfolio is linked to the key interest rates of credit institutions and does not seem to have been particularly affected by the ECB’s interest rate hikes.
