Most of you will be remember the last recession. In the years preceding the 1997 election the TV news discussions expended a lot of effort discussing whether an economic turnaround would be enough to re-elect the Tories. Despite the economic recovery being already under way commentators talked about the “elusive feel-good factor”. Feeling good could never be accompanied by anything other than elusiveness.
Anyway. The Land Registry reports today that house prices have, on average, stopped falling. London is up 2% on the month. Some will say this is A Good Thing, others will say that The Sky Is Falling In. I have to say I get pretty fed up with reading blogs by people who would send us all to work in the fields just so that we can remain ideologically pure. As CU put it recently: for the sake of gold bugs and Austrian economists. This is the kind of economic extremism that is usually associated with Pol Pot than so-called “capitalists”. These guys say that it is paper money which is theft, rather than property.
No self-appointed expert on house prices or economic policy will ever answer me as to what the correct level of house prices is. I have given up counting the number of people who said that housing is still over-valued, but none of them will tell me how much a house is intrinsically worth. What is the proper amount to borrow to finance one’s home? What is the real value of the home one wants to buy?
We are often shown graphs showing how we have departed from the long term trend as if the gradient of that graph was somehow set in stone in some tablet in the ancient capitalist rule book. None of the people who regard this line as gospel truth ever answer my points about whether the situation might have changed.
People’s expectations have changed. Thirty years ago, a lot of people did not expect to have their own bedroom in shared flats. These days sharing rooms is for the newly-arrived community alone. Professional people would have not been seen dead in places like Fulham a generation ago. These days the inner suburbs are teeming with money. People expect en suite bathrooms, efficient central heating and double glazing. People expect a room for each of their children. People expect decent parking as well as good access to public transport.
The state has stopped building homes. The graphs ignore the fact that until the early seventies the government was building simply enormous numbers of new homes each year. Those homes were then let to people at a discount and those people would not be renting from the private sector.
Rents were deregulated in the eighties. Inflation and inflation expectations have fallen dramatically as have interest rates. Thatcher’s reforms mean that the economy has improved its overall performance. The population has soared.
I would be very interested to hear from one of the Calamatists as to whether they think that none of the above factors might have been involved in the recent above-trend growth in prices. I have to say that I am in the Phew camp.
[Graph borrowed from the Land Registry]
“People’s expectations have changed. Thirty years ago, a lot of people did not expect to have their own bedroom in shared flats. These days sharing rooms is for the newly-arrived community alone. Professional people would have not been seen dead in places like Fulham a generation ago. These days the inner suburbs are teeming with money. People expect en suite bathrooms, efficient central heating and double glazing. People expect a room for each of their children. [...] until the early seventies the government was building simply enormous numbers of new homes each year. Those homes were then let to people at a discount and those people would not be renting from the private sector.
Rents were deregulated in the eighties. [...] Thatcher’s reforms mean that the economy has improved its overall performance. The population has soared.”
A problem with the argument from those non-financial factors is that they should affect rents as well as capital values, but rents haven’t risen all that much in recent years, not even now that renting is becoming trendy again. As for interest rates and low consumer price inflation, those were certainly factors although I’d expect both to rise considerably over the next few years.
From the perspective of a mere `grunt` in respect of housing economics, I’ve always purchased a house with the main aim of simply wanting a comfortable, interesting home in a nice community – not a commodity to trade with for profit. Having just accepted a sensible offer on our current home after 9 months in `the housing desert`, we have not a clue where or what next, except that it must be to our above, very simple, criteria and the older the better. We may even rent – how working class of us
Calamatist – there is another important factor which I forgot to mention: the desire for home ownership itself. Many people want the security of owning their own home rather than being beholden to a fly-by-night landlord. Also, people who buy their own homes can make them their own rather than living in Sarah Beeny decor mediocrity!
H – come and live on my estate
Making money on property is a nice fringe benefit – and no more than an opium pipe dream for me at the mo’, of which less later – but if one manages 25 years of mortgage serfdom, there is then the prospect of living free for the rest of one’s life, rather than lining the pockets of a landlord.
As to the right price for property, that is entirely down to supply and demand, but I would argue that planning restrictions (green belt) etc are the major factor in limiting supply, especially in the South East, thus inflating prices.
I think lot of the preference for home ownership over renting is speculative. If you look at countries which in recent decades have taken greater care of their money supply, such as Germany, there are far more renters and they don’t really see what the fuss is about. And presumably at some percentage, the desire for home ownership saturates.
I hope this doesn’t seem too personal but your piece gave the impression that the recent volatility had been causing you distress. While increased volatility will periodically provide opportunities for rebalancing from overvalued to undervalued assets, “phew” (or any other significant emotional response, positive or negative) is a warning sign; it’s not something one should feel about a portfolio that’s appropriately diversified and not overleveraged. Wondering if you could be in too deep? Or maybe it’s an unrealistic wish for perfect financial foresight, which none of us has; even some of those Austrians and goldbugs will be nursing large losses at the moment if they invested heavily in junior miners.
You were sensible enough to buy a place with a room which you could let out.
Times your salary by 3.5. Deduct this sum from the mortgage which you were allowed to take out. The is the amount by which your loan exceeds acceptable amounts and from this you should be able to calculate how much your home is over-valued.
You mention the fact that each of us needs our own room etc. This is an indication of how far demand for property – therefore prices – can contract should we all revert to 1940s austerity living. I don’t mean to be a doom monger – but I think we are in the eye of a hurricane and that the ‘worst financial crisis since the war’ has not passed us by with a mere blowing over of a few deck chairs.
Another commenter puts it thus:
All that’s happening is that the Government has taken over from the general public as the major new borrower, and is busily using financial trickery to try to re-inflate the housing market (which is proof if proof were needed that Labour ministers know pretty much zilch about anything much).
This mega-pumping of new money is certain to have an effect, and the effect is what you see; a minor blip in the market that occurs in the most messed-about-with, most distorted and most unrealistic section of the market, i.e. London.
This is just a blip. The next big upset will come when the rating of UK Government Bonds drops, and the insane borrowing party comes to an end. At that point a lot of the money in the economy will vanish, as the financial firehose aimed at the recipients of benefits gets turned off.
My guess is that the adjustment period that will follow this will be painful and will force a lot of people to ditch illusory wealth and live with what they have, which will mean a lot of property suddenly comes onto the market at knock-down prices.
“people would have not been seen dead in places like Fulham a generation ago”
Actually expectations have been going down for some while now. A city professional will pay 1/2 a mil for a tiny property that a milkman would have taken for granted thirty years ago.
If Calamatist is right about your emotions, a good time to sell ???
My house is insured to be rebuilt for £10k less than I paid for it 5 years ago. I guess that is what it is “worth” plus one or two £k for the land.
“…but none of them will tell me how much a house is intrinsically worth…”
I’m sure you realise this but nothing has an intrinsic worth or value. Not gold or silver or oil or AK47’s or your labour. The value of things (all things) is soley determined by what you can exchange them for in real markets which you can access.
So houses are worth what you can get them for or sell them for.
When people speak of markets under or over pricing something they are really speaking about wishes or desires not observable reality.
Croydonian – agreed.
Calamatist/EK – why would I sell a flat which I like living in?
L – I expect the land is worth rather more than that by virtue of it being land available for housing. You can’t just buy a couple of acres of field and build a house. My flat apparently would cost half what I paid for it to be re-built, but the land it is on must be worth a fortune even at recession prices.
David – well that was pretty much my point, there are lots of shrill world-haters who think that there should be a nice orderly housing market where nothing ever costs more than 3.5x a professional’s income and price inflation was faster than interest rates so they could pay off their mortgages quickly a bit like in the 1970s when everything was wonderful in Britain.
“No self-appointed expert on house prices or economic policy will ever answer me as to what the correct level of house prices is.”
I’m neither an expert on house prices or economic policy, but from a purely common sense point oof view I would say the average house price should be no more than 3.5 times the average (not professional) salary given that is the usually accepted maximum a mortgage lender would consider affordable. I don’t think that is “shrill” or “world-hating” – just common sense.
So, assuming the average salary is around £25K a year that would mean the average house should cost no more than £90-100K (depending on deposit and the spousal salary). That is what the “correct level” of house price should be – you may not agree, but at least someone has answered your question now. Lending more than 3.5 times salary had become commonplace, but – as we saw – this leads to a credit bubble and, ultimately, a credit crunch.
You also have to bear in mind that house prices in the UK are bound to be over-inflated purely due to the sheer pressure of numbers on the housing market and because it is a highly regulated market there are bound to be market distortions. If the market were free – i.e. you just let people build anything anywhere – then the “correct” house price would be considerably lower. In other words, if the market were less “orderly” then prices would be lower.
As a result, house prices are not a reliable economic indicator – but they do serve as a very good indicator of levels of personal debt and a reminder of the dangers of debt. I really don’t like this “I’m alright, Jack” attitude. I’ve got kids and I’d like to think that – if they want to – they would be able to afford to live where they were brought up, but at current rates that just will not be possible.
Stan where does 3.5x come from? Does it come from the affordability of the interest payments or just from some historical formula from when mortgages were rationed? Do you think mortgages should be rationed? Do you think perhaps that now the inflation which so hurt the economy has been put to bed that people might be able to borrow more than 3.5x because rates are so much lower? This is the question. You are right about a totally free market, but I think it is “common sense” that most people don’t want London to extend as far as Birmingham which is what would happen if the planning laws were abolished. I think the old phrase was “bungalows all the way to Brighton”. I can’t come close to affording to live where I grew up and that is quite simply because when my parents moved there it was cheap and cheerful and now it is gentrified and expensive. Should my parents and their ilk have been prevented from moving there so that property prices stayed competitive for the children of existing residents? Should we just barricade our streets and be done with it?
Gentrified ? I’m not sure that that is true. Professionals squeezing into ever smaller living space. Prices have gone up around here through ‘white flight’ owing to uncontrolled immigration from the third world.
Why is borrowing so cheap ? Interest rates were due to go up post the dot.com bubble. Then Bin Laden struck the Twin Towers and the Fed decided to keep them low in order to avoid a global economic crisis. It is no coincidence that the housing boom really took off after 2000.
3.5% because if interest rates go up (as they should) then the mortgage will remain affordable to borrowers. This figure was decided by steady Capt Mainwaring types before 30 year-old spivs infested the lending system and brought us to the verge of bankruptcy.