How the housing market affects the economy

uk-real-house-prices-2017

A look at how the housing market and changes in house prices affect the rest of the economy. In summary: Rising house prices, generally encourage consumer spending and lead to higher economic growth. A sharp drop in house prices adversely affects consumer confidence, construction and leads to lower economic growth. (falling house prices can contribute …

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Housing supply in UK

A fundamental problem in the UK housing market is the persistent shortage of housing. The number of households is forecast to grow by 232,000 a year until 2033, and yet the current rate of home construction is struggling to increase above 150,000-200,000 a year.

According to Crisis, there is a backlog of nearly 5 million households with unsuitable accomodation.

There is currently a backlog of housing need of 4.75 million households across Great Britain (4 million in England). Around 3.66 million households are in housing need and are currently concealed and overcrowded household, those with serious affordability or physical health problems and people living in unsuitable accommodation.

In 2007 the Government set a target of increasing the supply of housing to 240,000 additional homes per year by 2016. (link) Within this overall target was a commitment to deliver at least 70,000 affordable homes per year by 2010-11, of which 45,000 were to be new social rented homes. However, since the credit crunch of 2008, this target has severely fallen behind as housing construction has slumped.

Policies to deal with expensive house prices in the UK have sometimes focused on demand side approaches, such as “Help to Buy” which offers credit to groups of young home buyers. But increasing the availability of credit doesn’t directly address this problem.

 

housing-supply

Source: House building Quarterly Dec 2012

Housing completions have fallen close to 100,000 a year – well below the level needed to meet the growth in the number of households.

new-house-builds-2006-16-17Source: GOV.uk – Live tables on new housing

There is hope improved mortgage availability will increase private sector construction. But, it doesn’t resolve other issues, such as planning regulations and local opposition to building homes on a large scale.

New housing

Demand growing faster than supply

increase-house-prices-98-05

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Graph showing that demand for housing stock has been growing faster than net additions to the housing stock, pushing up house prices.

source: Understanding supply constraints in UK housing market, Shelter

Forecasts for future number of households

Despite a lack of housing supply, the number of households in England is projected to grow to 27.5 million in 2033, an increase of 5.8 million (27 percent) over 2008, or 232,000 households per year. (Household projections 2008-2033 – Data.gov)

UK Housing Market

A look at the main UK housing market data.

  1. House prices
  2. Affordability of housing
  3. Interest rates
  4. Supply of housing

House price inflation

house-price-inflation-91-

Nationwide data

  • Annual house price inflation running at 5.3% in Q1 2016
  • London showed strongest housing market with prices rising more than other areas.
  • Price of a typical home is £198,564 (Q1 2016)

UK House prices in past few decades

nominal-UK-house-prices-91-

  • In 1969, average house prices were: £4,312
  • In 1975, average house prices were: £10,388.
  • In 1980, average house prices were: £22,676
  • In 2016, average house prices are: £198,564.

Read moreUK Housing Market

Why are UK house prices so high?

house-prices

In recent years, we have had a devastating global credit crunch, the longest and deepest recession since the 1930s (if not worse). Across Europe, we have seen mass unemployment and in countries like Spain, Ireland and Portugal, the housing market has seen up to 50% falls in house prices. Yet, despite this financial and economic …

Read moreWhy are UK house prices so high?

Regional UK house prices

In the past decade there has been a divergence between house prices in different parts of the UK. In particular, house prices in London and surrounding areas has rocketed to unprecedented levels. Source: ONS According to the ONS, average mix-adjusted house prices in September 2015 stood at £299,000 in England, £175,000 in Wales, £199,000 in …

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Factors that affect the cost of private renting

Readers Question: I was looking for info on housing demand/supply. One area you have no info on is rental trends. There is a lot written about a critical housing shortage in the UK, starting with the Kate Barker review (2004), who took great pains to assure anyone who asked that UK house prices could only go up because of supply/demand fundamentals. None of her projections have been achieved and, if her assumptions were right, there should be an acute housing shortage, evidenced by rising rocketing rental rates, and middle-class homeless, sleeping on the street. Anecdotally, I don’t see any manifestation of exponential inflation of rents eg a 2 bed apartment in the commuter belt outside London attracted rent of c. £1,000 pm in 2002. In ten years that has risen marginally. Why, if there is a critical housing shortage?

The ONS have started a new private housing rental price index – Index of private housing rental at ONS Data only goes back to 2005.

In recent months, there has been a marginal increase in house price rents in UK.

  • In the 12 months to August 2013 private rental prices paid by tenants in Great Britain rose by 1.2%. Private rents in Great Britain excluding London rose by 0.8% during the same period.
  • In the 12 months to August 2013 private rental prices grew by 1.1% in England, 1.3% in Scotland  and 1.3% in Wales.

Index of renting

private-rental-price-england

I used statistics for England rents because the data went furthest back. Data for the UK started later. Source: ONS

This shows a modest rise in the cost of house price rents. A rough calculation suggests an 8-9% rise in rental prices, slightly lower than the rise in the Consumer price index.

House price v rental costs

An interesting comparison is to compare house price inflation with the increase in rental prices.

rental-house-price-inflation

One very clear feature is that house price inflation is much more volatile than rental prices. Rental inflation, has rarely risen above 2%, House price inflation has reached over 10%, and slumped to -13%

In this period since 2006, house prices have risen by an average of 2.4% . Rental prices have risen by an average of 1.0%

However, it is worth bearing in mind that in the period 2000-2006 house prices were increasing by up to 20% a year.

In a way, it is remarkable, that house prices have risen by an average of 2.4% since 2006 – given the credit crunch, the depth of the recession and especially when compared to other countries which have had a real housing slump, such as Spain and the US.

UK House prices to rental costs

The Federal Reserve have an interesting graph which shows how house prices in the UK have risen much more substantially than UK private rents, in the period 1996-2008.

house-price-rentingFRB on UK House prices (2008) It was interesting the FRB report suggested ‘Using the price-rent ratio as a guide, (UK) house prices are likely to fall at least a further 30 percent before levelling off.’

Why are rental prices more stable than house prices?

Some factors that could explain why UK house prices have been rising faster than rental prices.

  1. Many tenants have longer term contracts. Landlords may enter into agreements (either formal or informal) to keep rental prices fairly constant. House prices, by contrast, are driven by supply and demand. If more people enter the market for buying a house, it can push prices higher. If house prices rise 20%, it doesn’t mean homeowners will see a 20% rise in the cost of mortgage payments. Most homeowners will be unaffected in the short term by rising house prices. Renters will be affected directly by any change in the cost of rent. Most renters couldn’t afford more a sharp jump in rents.
  2. Rents not affected by interest rates. If interest rates go up, this doesn’t change the cost of renting. But, it might dissuade people from buying a house. Similarly if interest rates fall, landlords will not pass the interest rate cut onto tenants.
  3. Supply more elastic. It is likely that rental properties are slightly more elastic than houses. If there is greater demand for renting, and the price of renting goes up, it may encourage more landlords to put houses for rent on the market or it may encourage people to let out a room. However, this point is just an assumption – it would need a bit more investigation.
  4. Demand more price elastic for renting. If rents rise in London, it may encourage workers to move elsewhere to find cheaper rents. Renters are more flexible and more price sensitive. If you want to buy a house in a certain area, you’re demand is more likely to be price inelastic. If house prices go up, you may be willing to pay the higher price – you don’t notice a price rise straight away. Higher prices are spread over the 30 years of the mortgage term.
  5. Buying houses as investment. Rising house prices have encouraged more people to buy houses as an investment. This pushes up house prices, but consequently leads to an increase in the supply of rented accommodation. Therefore, you could have a situation where a sharp increase in buy to let activity, pushes up house prices, but decreases rental prices. Evidence suggests the % of homes which are owner occupied has declined in recent years; this could imply an increase in the supply of homes put on the rental market.

    Read moreFactors that affect the cost of private renting

London housing market – boom and bust?

The London housing market is one of the most expensive places in the world. In Sept, 2015, the average London house price is now just under £500,000 (BBC) Since 2013, house prices in London have risen 40%, defying a weak economy and stagnant growth in average earnings. London house prices are 7% higher than the …

Read moreLondon housing market – boom and bust?

Cut in UK stamp duty

The government have announced a change in stamp duty. The chancellor George Osborne claims the change to stamp duty will cut the rate of tax for 98% of house purchases.

New marginal tax rates are:

  • 0% tax on house purchases up to the value of £125,000
  • 2% tax on purchases between £125,000 and £250,000
  • 5% tax on purchases from £250,000 up to £925,000
  • 10% tax on purchases from £925,000 to £1.5m
  • 12% tax on purchases over £1.5m

The tax change will cost the public purse £800m and represent a £4,500 cut in tax on average home of £275,000.

UK stamp dutySource: Guardian

For an average priced home of £275,000, there will be £4,500 cut in stamp duty.

Commentary

Firstly, it makes sense to get rid of the old system, where a £1 increase in house price could cause £3,000 extra tax. Marginal tax rates avoid this tax-cliff, which distorted house sales around the stamp duty rates.

It is also very progressive, with a steep increase in tax rates for more expensive houses. In some ways the new stamp duty is a weak substitute for the proposed mansion tax.

However, there are two main problems.

1. This is not a good time for tax cuts. Given the need to improve public finances, it seems strange to offer a big tax cut on stamp duty. Revenues from stamp duty have already fallen significantly since 2008 because of lower house sale volumes. This tax cut will worsen public finances. It would be better to avoid a tax cut for stamp duty and have an extra £800m to spend on infrastructure (like for example, building affordable social housing).

Some might say, ‘But, you often argue for expansionary fiscal policy, so why not support a tax cut to boost spending and support economic growth?” – Well firstly, the aim of this tax cut is not to boost economic growth. If you did want to pursue expansionary fiscal policy, you would cut VAT or income tax. Increasing income tax threshold would increase consumer spending, but I’m not convinced a cut in stamp duty would have much impact. A cut in stamp duty is not really going to encourage people to go out and spend supporting a sustained economic recovery.

With stamp duty cut we get the worst of both worlds – we get a deterioration in public finances, but it doesn’t even offer much help to the economic recovery.

Read moreCut in UK stamp duty

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