Entries Tagged 'housing' ↓

With house prices falling rapidly, it is interesting to examine who loses and who gains.

This kind of question frequently comes up on AQA unit 3 housing market. However, it also makes an interesting macro economic question.

The Impact of Housing Wealth on economy - detailed look at impact of housing wealth on macro economy.

Effect of falling house prices on UK Economy

11 Reasons house prices are falling

Readers Question: ‘Outline two reasons why the UK’s housing market represents a barrier to the UK’s membership of the euro’.

Joining the Euro involves a common monetary policy. This means that UK interest rates will be set by the ECB. Therefore, if the ECB have to increase interest rates it will increase UK rates and therefore increase the cost for UK homeowners. If interest rates increase at the wrong time it could cause economic hardship for homeowners.

1. Mortgages are a high % of consumer’s disposable income and therefore are sensitive to changes in interest rates. UK House prices are a high ratio of average incomes. Many homeowners have had to take out mortgages 4-5 average incomes to get on the property ladder. This means mortgage payments are a high % of disposable income. If interest rates increase, it could make mortgages unaffordable. Continue reading →

Who is to Blame for the current housing market problems?

There are many suspects, the government, estate agents, American mortgage companies, individual greed.

This is an evaluation of some of the potential causes of the boom and bust in the UK and US housing Market

Other recent posts on the Housing Market include:

• Why is it difficult to increase supply of housing in UK?
• Overvalued housing Markets
• Boom and Bust in US Housing Market
• Mortgage interest rate forecasts

The Housing market is certainly a popular topic of conversation these days. There was a time when people felt that ‘house prices would always rise’ However, the sobering lesson of the US housing market is that house prices can fall, and when they do it can be very damaging for the economy.

In some respects the UK is different to the US. We don’t have the same oversupply. Our mortgage industry  wasn’t so poorly regulated, interest rates are likely to fall in the next 12 months.

However, there are several warning signs that prices could be set to fall.

1. Freezing of credit markets has led to a sharp fall in mortgage approvals.
2. Confidence and expectations have changed; future markets are predicting a 10-15% fall next year.
3. Banks are raising standard variable rates due to the credit crisis.
4. House prices to earnings ratios have increased significantly.

I wrote a detailed essay here on: Overvalued Housing Markets

apart from consumer confidence, identify two general economic conditions that can affect the housing market and explain their effects. (8 marks)

1. Economic Growth. Demand for housing is dependent upon income. Therefore with higher economic growth and rising incomes people will be able to spend more on houses; increasing demand and pushing up prices. In fact demand for housing is often noted to be income elastic (luxury good); rising incomes leading to a bigger % of income being spent on houses.
2. Unemployment. Related to economic growth is unemployment. Clearly when unemployment is rising, less people will be able to afford a house. But, the decline in confidence will mean even people with a job may not want to buy.

Other Reasons at No Extra Cost

• Interest Rates. This is not really a ‘general economic condition’. But, a period of high interest rates will cause lower demand for housing. It increases the cost of mortgage payments and reduces the affordability of housing. Continue reading →

should the government build houses itself, encourage the private sector to build more houses, or play no part in the housing market at all? (justify your answer)

Arguments for Government Building Houses

• House prices are currently too high due to a shortage of supply. If government increase the supply it will help overcome the shortage and keep houses affordable for first time buyers. If the government don’t build houses there will be a continual shortage and the market will be subject to fluctuations.
• Shortage acute in certain areas. The government need to target house building in certain areas.
• Inequality. The high price of UK houses means that it is increasing inequality. People leaving university have to either pay high rent or pay alot for a mortgage. This means that many young workers have low discretionary income. There is an increasing wealth gap between people in their 20s and people in their 50s. Government supply of houses could help low income earners. Continue reading →

Readers Question: Which businesses are likely to benefit from a recovery in the housing market?

I think it is a little premature to talk of a recovery in the housing market. But, nevertheless when there is a recovery in the housing market the following firms will benefit.

• House Builders. At the moment there is a surplus of unsold houses. This is contributing to falling profitability for many large homebuilders. A recovery in the housing market would benefit these firms very significantly.
• Mortgage Lenders. The Council of Mortgage Lenders in the UK have reported a significant drop in mortgage lending. This reduces the profitability of banks and building societies who lend money to potential home buyers.  An upturn in the housing market would increase demand for mortgage products enabling profitable mortgage loans to be made. If conditions in the housing market improved, mortgage lenders would see an additional benefit of declining mortgage defaults which has been causing significant losses to mortgage lenders and banks who bought the securitisation products.
• Estate Agents. Estate agents benefit from the number of transactions and the value home sales. An upturn would increase the number of house sales and increase the value of houses meaning that their % share would improve. Continue reading →

Readers Question: Does mortgage equity withdrawal enhance economic growth?

There is good evidence that mortgage equity withdrawal can lead to higher levels of consumer spending and economic growth

Definition of Mortgage equity withdrawal - Mortgage equity withdrawal occurs when homeowners remortgage taking out bigger loans to take advantage of rising property values.

• Suppose you bought a house for £100,000 with a £95,000 mortgage. (+ £5,000 cash deposit)
• 10 years later the house might be worth £160,000. Yet, you only owe the remainder of your £95,000 mortgage. If the bank is still willing to lend 95% of the value of your house. You could remortgage for say £150,000. This means you will have a bigger mortgage and will have to pay extra monthly mortgage payments, but you can now spend the extra £50,000 on holidays and cars. Remortgaging is a way for consumers to increase spending. It has become quite common in the UK.

Mortgage Equity Withdrawal in the UK

According to the Council of Mortgage Lenders equity withdrawal increased from £10 billion in 1984 to £23 billion in 1988. http://www.cml.org.uk/cml/filegrab/pdf_pub_resreps_35full.pdf.pdf?ref=3854

Continue reading →

The MPC are responsible for setting interest rates. In theory, their only target is low inflation. - CPI inflation of 2% +/- 1.

Therefore, the determination of interest rates depends primarily upon the prospects for inflation. In setting interest rates, the MPC will consider various economic statistics which give an indication of inflationary pressure in the economy. These will include:

1. Economic growth / compared to the long run trend rate. If growth is above the long run trend rate (2.5%) then it is likely that inflationary pressures will increase.
2. House prices. Falling house prices will reduce consumer spending and therefore inflationary pressures
3. Exchange Rate. A devaluing currency will increase inflation because of cheaper exports and more expensive imports
4. Spare Capacity. The % of firms who say they are operating close to full capacity
5. Levels of Investment.
6. Cost push inflation. e.g. prices of commodities and energy prices.
7. levels of consumer confidence.

Although, the MPC is supposed to only concentrate on inflation, in practise they will take into account levels of economic growth. The prospect of recession, may tempt them to cut interest rates even if it means inflation may rise.

Predictions for UK Interest Rates

Continue reading →

Readers Question: in what ways can changes in house prices effect consumer spending, and hence an economy as a whole?

The Housing Market places a crucial role in determining the state of the UK economy. This is because:

• Many consumers are also homeowners. (75% of houses are privately owned - higher than in European countries like France)
• Houses are by far the biggest form of wealth.

What Would be the effect of falling House Prices on the UK economy?
Confidence. The value of houses plays a big role in determining homeowners outlook for the future and hence spending. If there is a fall in house prices, there is a fall in people’s wealth. Therefore, consumers will have less confidence. When house prices are falling people will be much more reluctant to start borrowing, consumption is likely to fall. The housing Market receives a lot of media attention. Even a slow down in annual house price growth can make front page headlines. Therefore, the impact of falling house prices will probably be more significant than rising house prices.

Equity Withdrawal. With falling house prices it will be more difficult to remortgage and take equity withdrawal. (Equity withdrawal is when you get a bigger mortgage against the value of your house and then spend the extra money.) Rising house prices means people can get a bigger mortgage and therefore borrow and spend more. When house prices fall this cannot occur.

Continue reading →