Tuesday 10 April 2012

UK House prices are the only guide to Monetary policy

Headlines like this on the BBC today certainly make for puzzling reading. The gist of the story is that the UK house market is bumping along the bottom, with some signs of increases in house prices this year.

For a variety of reasons, the price of houses, Daily Mail obsession though it is is the absolute centre of the UK economic problems today:

a) The majority of personal savings art in the form of House Price equity
b) Mortgage interest payments and rent (other people' mortgages) are the largest single bills paid by everyone in the UK
c) A fast rising population is putting demands on housing at a time when new builds are at post-war lows. Fewer and fewer first time buyers can access the market.
d) Banks are saddled with hundreds of billions of mortgage debt, a small change in this profile for the negative and they are bust. Lloyds Bank for example has said publicly in its analyst presentations that it is highly geared to the UK mortgage market and would be in huge trouble if rates went up to fast as that would push people beyond their ability to rep-pay
e) The huge bank exposure to residential mortgages means that they are having to borrow money at higher rates and therefore lend at higher rates on other personal (credit cards) and business lending, also capital allocation means there is less money available for other types of lending.

All the above reasons are key to understanding why the Bank of England considers it its number one priority to support the Banks and property debt holders by keeping interest rates down at historic lows. By doing this repayments are less and so people have more disposable income and also the banks have less defaulting property and so have more money to lend elsewhere and don't go bust. The logic is good.

Except that it is a long-term disaster. By having low interest rates the price of houses remains high; but also there are a lack of buyers as prices are unaffordable. This is why the market today has only a 1/3rd of the transactions as pre-2008. Considering the depth of the recession, prices are barely below their long-term average increase (see graph from Nationwide statistics above). After the last House price crash it was more than a decade before recovery, this time it should be at least the same, so stories that they are recovering so soon are problematic.

Until points a) to e) are addressed, the UK monetary and fiscal policy will remain in thrall to the Property sector. There are some simple solutions, the first is to try, as the Government is through planning relaxation and tax breaks, to hugely increase the supply of houses - as ever, this extra supply will meet or exceed demand and reduce prices (you could try and shrink the population by controlling immigration too, but let's not go there today...). Higher interest rates would improve bank returns and also returns for savers in our economy, which would be a better way to go rather than rewarding debtors with low rates. However, rates are too constrained by the need to avoid a housing bust.

The key indicator for us to follow though is the price of houses as monetary policy will follow them exactly. if the market starts to recover price wise then rates will creep up, if not then rates will remain super low. At least the terrible situation outlined above can help us decide on our own debt needs for the next few years.


Anonymous said...

Well, broadly agreed to all that, apart from this:

"There are some simple solutions, the first is to try, as the Government is through planning relaxation and tax breaks, to hugely increase the supply of houses"

Tax breaks for land ownership are the stupidest kind of tax breaks. The best and quickest solution, to economic misery as well as high house prices/shortage is to reduce taxes on income and output and increase taxes on land rental values.

Land can't go anywhere and it's rental value is unaffected by taxes, all that happens is that people use it more efficiently. We actually have plenty of housing, it is just badly allocated and young people and small businesses face a three-fold burden - low earnings, high taxes on income and high rents/house prices. You can fix three out of these four at a stroke and you know it.


Steven_L said...

You can't have a bubble without a bust.

They'll try and drag it out, and create the fabled 'soft landing' (which could take 20 years) but then the next problem/crisis will come along and we won't be over the last one. Just like Japan wasn't over it's 1990's bust when 2007/8/9 hit.

It's not just about supporting banks either - it is surely about pitching for the middle England swing votes that decide General Elections.

But all of King's horses etc won't be putting humpty dumpty back together again this time. ZIRP and QE represent the end of the road for this decades-long bubble.

If you want to make money out of houses in the next couple of decades, learn the necessary trades to improve them or forget it.

redrut said...

Before I say anything, I can tell you I am bullish London property for reasons outlined here:

Enjoyed the article and want to add that one shift which may not ahve been considered is the movement from an ownership economy to that of a rental economy (eg Germany).

Property prices in London are unaffordable only by those that live outside london. For Londoners it is slightly above average, for couples (increasing demographic of buyers) it is bloody cheap, for foreigners - bloody cheap, for investors - bloody cheap (5% yield for prime, 8% for average, 20% for sub prime).

I think also that only 10m houses have mortgages, limiting the impact that changes in rates will have on mortgage payments.


BlackRaven said...

redrut, London property is not cheap by any stretch of the imagination to local buyers.

CU, I agree that planning and an increase of supply is a good plan, what they also need to do is encourage fixed rate mortgages.

BoE policy is sound. for houseprices to crash you'd need forced liquidation, and the long term cost of repossessions would be very harmful. a drawn out process of real house price falls is the best option really.

Electro-Kevin said...

"By doing this [low interest] repayments are less and so people have more disposable income and also the banks have less defaulting property..."

One wonders why they hadn't done this before the crisis. And 'crisis' is the word. Let's not forget that.

Prices are being determined at the margins by 1/3 of the level of pre crisis house sales, and on this our whole economy hinges ? This while much of the world is adding real growth and value to their economies ?

Keeping our housing market afloat is the least of it. Especially if it prices the best young brains out of our economy.

Our houses will lose value if Britain becomes the wrong location.

smee again said...

@Cityunslicker - Welcome to 2006! Hope you have a lovely year!

@others - All this was wholly unavoidable but Brown and Labour decided to 'go with throttle up' right into the teeth of the crisis. They dropped rates (in was it 2005/06?) and the market, already peaking, blew its top. They have royally f*cked the UK economy for the next 20 years.
Wages are stagnant or falling and the banks are hoist on their own petard of overlending, there is no appetite for loaning money to buy property. In fact, anyone with half an ear to the ground knows that the banks are calling in large property loans left and right.
The idea that there is 20 years worth of cash rich investors out there that will cause prices to rise for the next 20 years is ludicrous.
I also happen to know that many estate agents, surveyors, and ancillary services are in deep, deep trouble with the low volumes.
In the end the only way to do this is to allow people to fail. Allow repossessions and clean the housing and finance markets out in one fell swoop.
People will be hurt, yes. Some people will loose everything, yes. But at least the economy can get moving again. Property prices must fall; hard and fast. There is no other way.

Mark Wadsworth said...

"There are some simple solutions, the first is to try, as the Government is through planning relaxation and tax breaks, to hugely increase the supply of houses - as ever, this extra supply will meet or exceed demand and reduce prices."


"There is one simple solutions, to reduce the tax breaks for land ownership and to reduce the tax burden on earned income - as ever, this will reduce prices relative to disposable incomes."

There, that's better.

Anonymous said...

A more obvious 'top' signal would be watching the 600+ MPs who have 'flipped' their houses cashing out and trousering the gains made on the back of tax-payer funded expenses. These leeches won't hang about once they get the tip-off to sell. Just look at how they've added another layer of gold plating to their pensions, while decimating those of the 'little people' they despise.

Timbo614 said...

CU Said: "UK House prices are the only guide to Monetary policy"

UK House prices Control Monetary policy.

There fixed it for ya!

Anonymous said...

"hugely increase the supply of houses...you could try and shrink the population by controlling immigration too, but let's not go there today..."

A huge increase in building would be "interesting" - because the biggest increases in prices outside London are in the "white flight" areas, especially West and Wales.

I've noted that my liberal college friends, anti-racists all, still seem by chance to have ended up living in remarkably monocultural (and civilised) places.

One component of the high prices of Charlbury or St Agnes is that your neighbours will all be (pretty well-heeled) natives. That's part of what you're paying for. If prices come down because of new building, and the areas then become more diverse, will this depress house prices further? Could be a virtuous (or vicious, depending on your view of diversity) circle.

More than 25% of English schoolkids are now classified as "ethnic minority" - in time such realities will become apparent even in The Land That Stein Forgot.


Electro-Kevin said...

Redrut - I read the 1 Percent blog.

Tosh for various reasons.

1 million per year increase in population being one of them.

Not even I believe that things are going to be that bad.

As regulars here know that is really saying something.

theProle said...

The only thing that keeps house prices afloat is the planning system.

I'm currently looking at buying my first property, a scruffy 1950s end terrace on a largish estate of medium reputation, in an area of average house prices.
I could buy a bit of agricultural land, and erect the same house for about 2/3rd of the asking price (and as a bonus, I wouldn't need to strip it of woodchip wall paper from top to bottom when I moved in either), except that the government (planning controls) won't let me.

This is reflected by the fact that plots of land in the area command prices of between 1/3 and 1/2 the probable value of the houses they have planning permission for.

The best thing would be for a minimal planning regs scenario (I favor some controls to make people build stuff that looks half decent, and keep the countryside areas nice, but I'd look at zoning most towns and immediate surroundings as "free for all" areas.

That would solve the housing crisis, but wouldn't go down well with those who already own (overvalued) property who would be looking at significant losses.
Except of course they aren't really losses - it's not as if the value of your home does you any good, so unless you are a buy to let landlord (who can go to the wall for all I care, parasitic bunch) who cares.