Threat of housing bubble tempts Britain to act


Is Britain’s economy heading for bubble trouble?

Concerns are mounting that the country’s housing market is overinflated, with London house prices rising almost 19 percent in the year to April. Bank of England Gov. Mark Carney has described the situation as the greatest risk to the economy. The International Monetary Fund is worried. Ditto European Union officials.

The pressure is on to act now rather than risk having it all come crashing down later, dragging Britain back into recession. A Bank of England committee that was set up in the wake of the economic crisis to ensure financial stability is widely expected to take action Thursday to cool the market.

The move will be of interest globally, as its outcome will shed some light on how much a central bank can keep a specific sector from overheating without putting the brakes on the economy as a whole.

“This may not be the mother of all house price bubbles, but it may be the sister,” said David Blanchflower, a former member of the Bank of England’s Monetary Policy Committee who now teaches at Dartmouth College in New Hampshire. “Does it make any sense for the economy? The answer has to be no.”

Driven by interest from wealthy investors, an improving economy and pent up demand in a country with a chronic housing shortage, house prices rose 18.7 percent in the capital and about 10 percent in the rest of the country in the year ending in April, according to official statistics. That far outstripped the 0.7 percent increase in wages including bonuses during the same period.

That means Britons have to borrow more to buy a home. Homeowners in Britain often get new mortgage loans every two or three years to take advantage of fluctuating markets — rather than a fixed longer-term system common in the United States. Carney recently described over-extended borrowers as a threat to the financial system, largely because households make up the bulk of domestic borrowing.

“History shows that the British people do everything they can to pay their mortgages,” Carney said in a speech this month. “That means cutting back deeply on other expenditures when the unexpected happens, potentially slowing the economy sharply.”

Figures from the Organisation for Economic Co-operation and Development, a policy watchdog for the 34 most developed countries, suggest property prices in Britain are about 30 percent too high when compared to wages. In the United States, by contrast, most homes are valued correctly while Japan remains the cheapest market among OECD members after years of deflation.

The froth can be seen in the explosion of real estate agents. In a country where neighborhood retail shops often struggle to survive, realtor shops are a fixture, particularly in desirable neighborhoods.

PricedOut, a group that campaigns for affordable house prices, says people with steady but modest jobs — nurses, teachers and engineers — have little hope of buying a home, especially in the south. In Oxford, Britain’s least affordable city, the average house price — at about £340,000 ($578,000) — costs 11 times gross average earnings, according to the Lloyds Bank Affordable Cities Review.

Take the experience of Daniel Philpott, 35, of London, who has been sleeping on the sofas of friends and family for two years in hopes of saving enough money for a down payment. He makes £40,000 a year designing air conditioning units for commercial buildings. If he had to pay rent, there would be no hope of saving enough to buy what he wants: stability for the future.

“These high prices are just completely untenable,” he said.

If things reach a breaking point, experts fear a brutal correction like the one that hit the U.S. during the financial crisis, leaving millions of homeowners with properties that are worth less than their mortgages.

Brian Green, an independent analyst who blogs under the moniker Brickonomics, suggested that while people recognize the situation is out of whack, fixing it is another matter. That’s because the problems are complex, and vary greatly depending on region. London’s market, where rich speculators, often from oversees, are buying homes as investments rather than places to live, is nothing like that of some of the struggling cities in the north.

“You have an awful lot doctors at the bedside wondering what the problem is,” Green said. “And clearly there are a lot of different views about what the correct medicine is.”

Central banks have traditionally raised interest rates to try to cool off overheating parts of the economy. But that can be a blunt instrument, hurting other sectors of the economy that are still recovering from recession. Carney is aware of the danger, saying rate increases are still months away.

That leaves the Bank of England’s Financial Policy Committee to try new measures.

Economists say it could recommend tougher affordability tests for potential home buyers or require banks to hold more capital against mortgage lending. The committee can also recommend a loan-to-value cap, forcing borrowers to come up with bigger deposits. It could also ask the government to rein in a program called Help to Buy, which tries to help first time buyers buy property.

Carney has made it clear he’d rather intervene before there is trouble, having learned from the financial crisis.

“When you hear the thunder of the falls, it is wise to get off the river,” he said.

Bob Pannell, chief economist at the Council of Mortgage Lenders, believes Carney will be looking to the future after extolling the virtues of early action. Even so, any action is likely to be measured and gradual.

“You want to apply the brakes,” he said. “But you don’t want to fly over the handlebars.”

  • GBR48

    Everyone is aware that house prices are too high by an order of magnitude, but nobody wants the value of their own property to decline by so much as a penny.

    Previous interventions have been of the ‘blunt force trauma’ variety. To actually work, they need to be rather more surgical in their approach. London investment properties are unrelated to the rest of the market and should be removed from the equation from the start. You then get a clearer picture of what is really happening.

    In some parts of the country the market has been static for years with so few properties on the market that it has been difficult for people to move when they need to. That’s not climbing the property ladder, it’s just moving from A to B due to a change in job or circumstance. The ‘bubble’ is geographically patchy.

    Building more houses will not reduce prices. Housebuilders do not build properties to undercut the market price and give punters a discount. They fully intend to feed off a rising market and profit from it.

    One seemingly obvious solution is for the British to embrace rental. Part of the problem here is snobbery, part of it is greed, and part of it is the sensible economics of investing in a property rather than giving the money to a landlord.

    And then there is the fear factor. Right wing governments love deregulation. Britain has had a lot of both, and consequently, a lot of rack-renting landlords. This is not a historical issue-there are plenty of them out there today. Whilst all landlords have genuine tales of tenants-from-hell, potential tenants often have a real (and well-founded) fear of private landlords. Council properties, often transitioned to Housing Association properties, generally offer a degree of regulation regarding the safety and quality of a property, and tenure within it. Private landlords can be notorious, with little real protection.

    A thorough codification of the landlord/tenant relationship might make renting an option that would be viewed positively by far more people in the UK. But right wing governments don’t like regulation. It is against their beliefs. They call it red tape and abolish it when they can. And even if they did bring in regulation, tenants would still be very vulnerable: Your landlord knows where you live, and even has a key. The British judicial system is simply too slow and too weighted towards the wealthy, to offer any real form of protection. So the landlords-from-hell will remain alongside the fear of them, and people will do almost anything to avoid renting.

    With regard to other possible solutions such as sharing properties and choosing cheaper terrace properties, it is worth pointing out, given the context, that the British do not generally get on with each other as easily as the people of Japan might. They are often louder and less self-effacing. Complaints about neighbours are common and often the real reason why many move house. One of the main reasons for owning a detached property in the UK, is the distance, the walls, the hedges and the six foot fences it places between you and your neighbours.

    Property problems are at least likely to evolve in the next decade. The British government wants to implement fracking in the South East, the area where house prices are highest. Nobody is certain, but fracking may lead to geophysical instability and the polluting of groundwater. It might not, but the potential for devastation is considerable and the precautionary principle would suggest that alternatives are more advisable.

    The government, however, are not greatly taken by the alternatives, and appear confident that a property sitting on fracked land will not decline in value. It is always interesting when politics and reality meet head on.