Economic Outlook: Housing destined to be stuck in the mud

Economic Outlook: Housing destined to be stuck in the mud Even though property prices are recovering, volumes are much more important — and they remain very low, to the detriment of the economy The Sunday Times Published: 2010-09-26 00:01:00.0 Recommend (2) While most parts of the economy have emerged from the crisis and recession, some remain down in the depths. Housing, for which the freezing of mortgage funding markets three years ago was a dagger to the heart, is the most striking example. Most conversations about housing are dominated by prices. On this, the broad picture on the Nationwide building society measure was that prices began to fall in the autumn of 2007 when the mortgage famine hit, dropped by nearly 20% over the next 18 months but began to rise again in the early spring of 2009. By this summer, prices were nearly 12% above their lows. They have since slipped and stand about 11% below their pre-crisis peak nationally. In some areas, notably parts of London and the southeast, prices have risen above pre-crisis levels. That does not sound like much of a housing recession but prices, of which more in a moment, do not tell anything like the full story. For the housing sector, volumes are much more important. When it comes to mortgages, the housing market has always been unfair, but it is becoming more so The British Bankers’ Association said last week that mortgage approvals for house purchases last month were just 31,767. This was the weakest monthly figure since April 2009 but, perhaps more significantly, only half the typical level prevailing before the summer of 2007. August’s approvals were only 40% of their recent peak, in November 2006. Other measures of volumes tell a similar story. Acadametrics, which produces a house price index for LSL Property Services, says transactions (with and without mortgages) totalled 60,600 last month, half the 120,000-plus monthly figure typical in 2006 and 2007. Transactions were 59% of their long-run August average. A similar picture is provided by HM Revenue & Customs, which records all property sales above £40,000. Compared with nearly 1.7m transactions in 2006, it will be a struggle to get much above 2009’s depressed level of 848,000 this year. This weakness is partly explained by a reluctance to buy. The rise in unemployment in the recession was much less than feared but it happened, and fears about the impact of the government’s spending cuts are holding back some people. By far the biggest effect, however, is on the supply side, and in particular mortgage supply. This drove the housing market into recession and is preventing its recovery. Michael Coogan, director-general of the Council of Mortgage Lenders, recounted last week that when the CML came to put together its annual list of top 30 mortgage lenders, it struggled. Just three, Lloyds, Santander and Nationwide, accounted for more than half the market last year. Add Royal Bank of Scotland, Barclays and HSBC and you have more than 90% of the mortgage market. Some household names, such as Standard Life and ING Direct, lent amounts last year that were barely statistically significant. Coogan’s worry is that any benefit to lenders from the thawing of mortgage funding markets and improved savings flows into banks and building societies will be more than offset by tougher rules from the Financial Services Authority on regulating the mortgage market. The CML fears net mortgage lending this year, a mere £10 billion, against £100 billion in 2007, could turn negative in 2011. Does it matter? Yes. When it comes to mortgages, this situation is discriminating hugely in favour of first-time buyers who have parental funds to draw on. Existing homeowners in safe jobs and with plenty of equity win out versus the self-employed. The housing market has always been unfair, but it is becoming more so. More generally, a low-volume, near-moribund housing market is bad for the economy. It does not just affect estate agents and housebuilders. Even when the housing market turnover was much higher, Britain did not have enough geographical mobility of labour — people’s willingness and ability to move between regions in search of work. In an era where the housing stock will turn over just once every 25 years, mobility will sink further. Would not a good, market-clearing slump in prices provide the basis for a sustained recovery in housing activity? George Buckley of Deutsche Bank, in a detailed paper, UK Housing: A Long Run View, runs through just about every measure of house price under- or over-valuation. He concludes that while some measures point to a clear overvaluation, many others do not. House prices are broadly in line with their long-run real trend, and are close to fair value against other assets such as shares and gold. If we assume that there is a gradual upward trend in the ratio of house prices to incomes, again the picture is one where there is no significant under- or overvaluation. Most people in this debate get no further than the crude ratio of house prices to earnings which, as I have pointed out on many occasions, tells us very little. In any case, a fall in prices now would make the housing market’s problem — a lack of mortgage finance — even worse. The lenders would get more nervous about lending, and the regulators and ratings agencies would breathe down their necks even harder. First-time buyers prayed for a fall in prices in 2007, only to see that the result was that they could no longer obtain the mortgages to take advantage of them. So the prospect is of a housing market that remains in the doldrums, perhaps for years, never approaching the volumes that were the norm in the long run-up to the financial crisis. An over-exuberant housing market had damaging consequences for the economy then. A stagnant market will be equally damaging now. Avoid addiction to quantitative easing Last week I argued that the Bank of England should think about its exit strategy from a 0.5% Bank rate and £200 billion of quantitative easing — “creating” money through buying assets. For some members of the monetary policy committee, however, the intention appears to be to head the other way, to do more quantitative easing, or a variant of it. The minutes last week of its September meeting were widely interpreted as softening up the markets for further easing as, more explicitly, was Tuesday’s statement from the Federal Reserve in America. I think the Bank should be very careful about this. Spencer Dale, its chief economist, who was more cautious than colleagues about the full £200 billion of easing, stressed in a strong speech that the Bank had not given up on inflation. As well as familiar arguments for why inflation has been above target in recent years, he offered a couple of fresh ones. Cash was king in the credit crunch, so firms raised prices to keep cash flowing in. And, though this one is stretching it a bit, the fact that people and businesses believed in the 2% inflation target may have stopped prices falling in the recession as they might have done. As it happens, I agree with Dale that most of the factors that pushed up inflation are temporary. I do not think the Bank is deliberately trying to inflate the economy out of trouble. That, however, is how it would look if there was another round of quantitative easing in the near future. Outside the Bank bubble, there is a lot of unease about this policy. Easing is different to rate cuts. While rate changes can be quickly reversed, any assets purchased — the total is already nearly 15% of Britain’s gross domestic product — may be on the Bank’s balance sheet for years. The danger is the economy becomes addicted to the Bank’s money-creating exercises. It may be that downward pressures on the economy from a damaged banking system and public spending cuts are so intense that the Bank has to act. That, however, is not what its own economic forecasts say. And, until we reach that point, it should abandon thoughts about further quantitative easing.

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