According to the latest data from the European Central Bank, Luxembourg banks have raised their lending margins on housing loans from 0.6% in May 2024 to 1.0% in January 2025. As a result, mortgages have become relatively more expensive for potential homebuyers compared to if the margins had remained as low as in May 2024. This increase in lending margins means that mortgage rates have not fallen in line with the pace of the ECB’s key in the euro area.

When interpreting the widening lending margins on housing loans, a representative of the Luxembourg Bankers’ Association (ABBL) told Paperjam that several factors could explain the rise, including higher funding costs, increased default risks, and stricter capital and liquidity requirements. The representative explained that higher funding costs, particularly those arising from increased interest rates on deposits or wholesale funding, were a key driver. The representative noted, “It happens when banks face higher funding costs, for example, due to increasing interest rates on deposits or wholesale funding; the effects of these can often be seen with a time lag in the banks’ books.”

Additionally, when economic conditions worsen or default risks rise, banks typically “widen their margins to compensate for the increased likelihood of loan losses.” The representative also highlighted that stricter capital and liquidity requirements under the capital requirements regulation (CRR) could lead banks to adjust their margins to “ensure compliance and maintain profitability.”

Fixed-rate mortgages

To better understand why new borrowers are still opting for long-term fixed-rate mortgages despite declining key banking rates, the ABBL explained that the decision is largely influenced by the shape of the yield curve. According to the ABBL, when the yield curve is steep, meaning short-term rates are significantly lower than long-term rates, borrowers tend to favour variable-rate mortgages. This allows them to benefit from lower initial payments, with the expectation that rates will rise gradually, enabling them to take advantage of lower borrowing costs in the short term. However, when the yield curve is flat or inverted, meaning short-term rates are similar to or higher than long-term rates, borrowers are more likely to opt for fixed-rate mortgages. In such cases, locking in a fixed rate offers greater stability, as there is little advantage in choosing a variable rate, and borrowers may be concerned about future rate hikes. Moreover, “it’s important to note that the outstanding balance starts off high and gradually decreases over time. Consequently, the interest rate has a greater impact on monthly repayments at the beginning of the contract than it does toward the end,” the representative noted.

The representative added that Luxembourg borrowers continue to favour fixed-rate mortgage loans even as key banking rates declined. In addition to the yield curve, “there is also a psychological element.” “Two years ago, when the ECB rapidly and substantially increased interest rates to combat inflation, many people who had taken out variable-rate loans because of the long period of low interest rates were surprised, even dismayed, to see their monthly repayments increase significantly. Many customers remember this episode and no doubt still prefer the predictability of fixed rates,” remarked the representative.

Adjusting mortgage rates

Addressing concerns about the time lag between ECB rate decisions and mortgage rate adjustments, the ABBL said, “We have no data to support this claim.” Nevertheless, for banks, “this is a commercial decision,” a decision that takes into account other factors such as credit risks or liquidity and funding management, the ABBL argued. “The banks are not obliged to apply this adjustment, nor is there a mandatory deadline for doing so,” clarified the representative.

The representative added, “The decision to adopt lending and deposit rates is not taken by a single person, but by various internal committees, including the credit committee, AML committee, etc. These committees do not meet on an ad hoc basis, but every two, three or four weeks, depending on the bank. Once the decision has been taken, customers have to be informed, IT systems have to be adapted, tests have to be carried out and so on.”

“There are therefore practical reasons for the time lag between the ECB's decision and the adjustment of rates,” justified ABBL.

Renegotiated loans

The volume of renegotiated loans--which typically reflects that households are having difficulty repaying according to the original loan terms--in Luxembourg fell from €653m in June 2023 to €162m in January 2025, dropping below the five-year average. According to the ABBL, this reflects banks’ success in managing credit risks and preventing a rise in non-performing loans. The representative acknowledged that, “Two years ago, when the ECB rapidly and substantially increased interest rates to combat inflation, a number of customers found it difficult to repay their loans.” This meant that the banks regularly analysed all their loan portfolios and proactively contacted their customers in difficulty to find solutions, in particular by rescheduling loans, the ABBL recalled. As a result, the number of loans being restructured increased, and it is “entirely correct that banks have successfully minimised the risk for their clients to find themselves in a position where they can no longer repay their loans,” the representative concluded.