NOT for the first time, the vultures are circling over the housing market.
America’s sub-prime mortgage market has sneezed, but some say we will end up
with the worst cold.
A piece in America’s Business Week warns of “Britain’s coming credit crisis” –
it claims that British house prices are 11 times the average salary (almost
double what they actually are) and says Britain could suffer a worse fate
than America.
The Treasury/Bank of England bailout of Northern Rock, Britain’s fifth-biggest
mortgage lender, has echoes of past banking crises and appears to confirm
the worst fears.
All those “ninja” loans (no income, no job, no assets) to trailer-park folk in
Florida will, it appears, send a cold wind blowing down Acacia Avenue. Hang
on to your hats.
The Royal Institution of Chartered Surveyors says housing demand fell sharply
last month so that a net 1.8% of surveyors reported a fall in prices
compared with the previous month. As recently as April, a net 27.6% were
reporting price rises.
This was bearish news, though not yet as gloomy as it sounds. This measure of
house prices has been in negative territory, often for long periods, in
recent years, without corresponding falls in the numbers produced by the
government, Nationwide, Halifax and other bodies.
Even more alarming, on the face of it, is the news from Rightmove that average
asking prices have slumped 2.6% this month. That, however, appears to
reflect mainly the distortion created by the introduction of home
information packs (Hips); the average being brought down by a 41% drop in
the number of four-bedroomed and larger houses being put on the market.
But the market has clearly cooled significantly, as predicted here on May 27
(“End of the house price boom is in sight”), and that cooling came before
the “shock” in the money markets. Could that shock be enough to tip prices
over the edge?
Let me examine this in more detail. The first thing to worry Acacia Avenue is
rising mortgage rates. Last week the Bank of England reported that the
average standard variable rate set by banks and building societies rose to
7.69% at the end of August, up from 6.4% a year earlier, and the highest
since early 1999.
The rise so far, it should be noted, has little to do with rising money-market
rates and everything to do with rate hikes by the Bank’s monetary policy
committee (MPC). In a period when Bank rate had risen by 1.25 percentage
points, the standard variable-rate mortgage rose 1.29 points.
The Bank’s data suggest there hasn’t been much relief over the past year in
terms of fixed-rate mortgages. Since the MPC started raising rates, average
increases have ranged from just under a percentage point for five-year
fixes, to just over a point for two and three-year loans.
A little bit of history is useful here. The last time mortgage rates were
higher than this was in the autumn of 1998, following the Long Term Capital
Management hedge-fund crisis, probably an even more puzzling event for the
average homebuyer than this one.
Then, as now, the MPC – a mere fledgling – had raised interest rates. On top
of that, money-market rates increased.
The effect was to push the average standard variable mortgage rate up to
8.87%. Fortunately, help was at hand. Rates eased lower in the money markets
and the MPC cut interest rates aggressively. Six months later, mortgage
rates were down by two percentage points.
No two crises are the same. The statement that Mervyn King, Bank of England
governor, made to the Treasury committee last week suggested the MPC is in
no rush to cut Bank rate until it is sure the economy is being hit. As in
1998, the immediate money-market crisis will pass and homeowners can take
comfort from the fact that rate hikes are off the agenda and that the next
move should be down.
There is also an element of swings and roundabouts for mortgages in that, as a
result of that shift in Bank-rate expectations, fixed rates are coming down.
Two-year “swaps”, on which many fixed rates are based, have slid from 6.34%
in mid-July to below 6%.
This is a test for Britain’s housing market. My argument has been that house
prices will not fall significantly unless we have a recession and the
authorities lose control of monetary policy. That remains my view. An
American housing crisis that has yet to produce a slump in prices on the
other side of the Atlantic – national house-price measures are either
modestly down or modestly up on a year ago – should not lead to one here.
The Bank has not lost control of monetary policy, though the crisis in the
markets will do part of its job for it by raising the price of credit and
tightening the terms on which it is available.
The economic backdrop also remains healthy. Figures last week showed that
employment rose by 84,000 to 29.1m, the highest since comparable records
began in 1971. The number of jobs in the economy stands at 31.7m (some
people have more than one), up 280,000 in a year and the highest since this
series started in 1959. Job vacancies are up.
Globally, the fact that oil prices nudged above $80 a barrel last week was not
good news for motorists, and won’t help the inflation numbers. But it is
hard to believe traders would have pushed it to that level if they thought
the world economy was about to collapse, and with it oil demand.
This is still, in many ways, the phoney-war period. The credit-market crisis
continues to unfold but we still do not know how serious its effects on the
real economy will be. King’s assurance that the turmoil “should not threaten
our long-run economic stability” does not preclude some short-term
instability. But the effects so far, despite some scary headlines, are
modest. New borrowers should not lose too much sleep over an increase of a
tenth of a percentage point or so in the cost of tracker loans.
If the autumn 1998 parallel is anything to go by, the MPC will know that it
needs to cut interest rates when the Bank’s own agents tell it that business
and consumer confidence have slumped. That happened between September and
October in 1998. It does not appear to be happening now. Yet.
PS: In 2002, Sir Derek Wanless published his report on the National
Health Service for Gordon Brown, Securing Our Future Health: Taking a
Long-Term View. Last week he revisited the scene of the crime.
His assessment five years on, published by the King’s Fund, is that, despite
a 50% increase in real spending on the NHS since 2002, we are a long way
from having a world-class health system. The explanations are familiar. NHS
productivity is poor, costs have gone up and the extra money has not been
well managed. Wanless, who hoped five years ago that the public would become
“fully engaged” in improving their health, reports a rise in obesity worse
than in his gloomiest scenario. After a trip to my local cinema, seeing the
industrial quantities of popcorn and cola consumed, this does not surprise
me.
Nor should Wanless be surprised. In his recommendation to Brown in 2002, he
warned that 7%-plus real growth in spending was “at the upper end of what
should sensibly be spent” and it assumed that the NHS would spend the
doubling in its IT budget productively.
That was never going to happen, and so much of the 7.4% a year real growth in
spending of the past five years has been wasted. The latest Wanless report
says that if spending slows to 3% a year in this year’s spending review, the
NHS will suffer a shortfall by 2011 of between £7.2 billion and £15.2
billion. The government, it appears, needs to keep the taps turned on.
That, it seems to me, would be exactly the wrong thing to do. The
loads-of-money strategy hasn’t worked. Thin gruel may be a more effective
prescription.
david.smith@sunday-times.co.uk
People must understand that a stagnant property market is a depreciating one. In the late 80's the property market stopped for c.7 years (it only declined about 4% in that time) BUT adjusted for inflation this represented a 35% drop in the value of one's investment. In the same period one could have put money in a building society and nearly doubled it's value. So a stagnant or even low growth market is one that any property investor should jump out of and invest elsewhere until the property market becomes an attractive investment. The costs of buying and selling houses only exacerabtes this problem. In my view, if the market is stagnant of growing at less than inflation then it is crashing!
Giles, London, England
David, you have correctly asserted that a crash is likely to follow a recession. By saying that you don't think a recession is imminent, you are not denying that it could happen at some point in the future.
Some people seem to have got the wrong end of the stick here. Perhaps people preying for a crash, so that they can get themselves on the ladder?
nicko, london,
I am pleased to see that the tide has now turned against this form of complacent journalism.
The UK economy has enjoyed a prolonged period of economic growth because of the meteroic rise in levels of household debt, not inspite of it.
Take away HPI, and a recession will loom. Recession will worsen the situation, and the negative spiral will unfold.
David Smith has been a cheerleader for this fictitious economic boom and its ponzi finance underpinnings for so long he sounds like a stuck record. Wake up David! The thing is unravelling.
T Gumbrell, Poole, UK
Actually, the figure of 11 times average salary is probably right when you take in to account after tax income from which a mortgage must be paid. Given the way Brown has dramatically increased the tax burden on middle income earners over the last 10 years, many will undoubtedly struggle if mortgage rates rise even further.
Richard , Northwich,
David Smith appears to live in a dream world and, along with the majority of people, has done so for the last 5-7 years. He, along with many other economists, have combined borrowing and earnings into the figure for GDP growth. This is so amazingly silly that I have found myself near to tears of frustration. The reason for the near to tears - that the payback will be so painful for the UK economy. It is not a downturn, or slowdown, that is on the way. It is a juggernaut that will flatten the UK economy. It will take years to sort out the mess of the UK economy.
My real worry is that we had a chance to get it right with the reforms of the Thatcher years - a second chance. Will we have another bite of the cherry? Can the UK economy recover from another disaster? I am not sure, but live in hope.......
Mark A, Xi'an, China
Northern Rock
I called them on Tuesday morning to say that they could keep my money (and my Mum's)
They are the only bank I have ever dealt with that understand customer service. The staff are always cheerful, friendly (not OTT - Please Marks and Spencer stop all that how are you how has your day been banter!) efficient and knowledgeable, they don't pass you around the bank all the staff understand their savings products. I hope they don't get absorbed into one of the bigger banks as that special touch will surely be lost
Jane, London,
When I did land economics 20 years ago, a free money supply was by far the main catalyst of house price inflation. Much more than supply issues. People will borrow what they can afford to borrow if it means they can buy their dream house. High multiplier home loans will generate high house prices. Simple.
Whether the average house price is 6 times average salary or 10 times average slary, it is still wholly ridiculous. Who benefits from having high house prices? You still live in the same house, and unless you are going to sell up and live in a tent, you will never see the benefit.
The property-fixated Brits could do with a good property crash to bring back a little perspective and sanity! The only beneficiaries of a terraced house in London being over a million quid is the bank who lends the money. After all, it would have been probably 10% of that 20 years ago. It's still the same house, you just pay more interest to buy it.
Mark, Birmingham, Uk
I thought the baks job was to manage interest rates to hit the infaltion target. Surely lowering rates to save an over priced housing market is not one of these objectives?
Cutting rates has not been a great sucess in the past as all it has done is fuel the consumer binge resulting in the Uk being the most indebted country in Europe. Why encourage more HPI and more debt ( both of which are unsustainable)?
david barker, maidstone,
David Smith says that to say that UK house prices are 11 times average salary is wrong - he says the multiple is half that. But he is mistaken. Financial pundits repeatedly do this, confusing average household income and average individual salary. Average individual salary was around £24k last time I looked (ONS), and average house prices are around £216k (BBC online, 24 August 2007). I make that an income multiple of 9. The Business Week figure he quotes is thus closer to the truth than his. If you are single, and a large fraction of the population are, then it is the multiple of 9 that matters, not a multiple based on household income skewed by having two earners contributing to meeting mortgage costs. Lets just remember these kinds of numbers: in 1996 one could buy a 3-bed semi-detached house in Oxford (Botley) for under £100k. Now it would be three times that. In summer 2000 (int. rate then: 6%) a 1-bed flat in Brighton cost £60k; now it would be £150k.
Dan, Exeter, UK
David, just how bad do things have to get before you face up to the fact that economics is all about cycles: we've had the up - the down will follow as night follows day.
Tony Marshall, Southampton,
David,
Thanks for your explanation, but using the 2006 figure for house prices seems a bit odd when more current data is more available, especially as prices have risen significantly (about 10% or so?) since 2006 but wages have not.
Moreover, even using your stats, which gives a ratio of seven times average salary, to claim that Business Week's figure is " almost double what they actually are" is still misleading. Two sevens are 14, which is some way from 11.
Paul Jones, London, UK
Nonsense. Herd mentality will take care of it all. Greed and fear it's all about, not statistics and fractional points on interest rates.
What does employment rates have to do with it? It just means there are lots of people employed who can't afford a studio flat. It's irrelevant because whether you're employed or not employed, you're priced out.
There's no reason for a run on Northern Rock but look at what's happening. Herd mentality leading to ruin. Now it's becoming clear that property is no longer a route to riches, you watch how things unfold. It will be egged on by the press (good headlines to be had), and there will be lots of "I told you so" by people who didn't have the guts to speak out before the maelstrom (step forward Darling).
Got ourselves a BTL portfolio by any chance have we David? Quietly trying to offload perchance?
MD, Varna,
A lot of people seem to think the house price-earnings ratio is 11 times salary, as Business Week claimed, rather than a still-high 6.5 - 7 times. They're wrong. Here is the calculation.
Median earnings in 2006 were £447 a week, £23,244 a year, according to the ONS. The median house price in England & Wales in 2006 was £166,000, according to Land Registry data. That gives a house price-earnings ratio of 7.1. To add a further complication house prices have been conventionally measured in relation to male earnings, £487 a week, £25,324 a year in April 2006, which brings us down to 6.5.
If you're still with me, you'll have noticed that most house price measures are for the average, or mean. Let's take that at £200,000 - though it was rather lower than that last year. So what are mean earnings? In April last year they were £537.30 overall, £27,940, or £591.60, £30,763, for men only. That gives price-earnings ratios of 7.2 and 6.5 respectively.
David Smith, London,
Following up what Dan says, I just checked and the median salary was £447 a week in April 2006 which is £23k. On Sept. 14, Rightmove's survery said the avergae house cost was £235,176 which is a ratio of over ten times salary.
Paul Jones, London, UK
More wishful thinking: the Business Week report is quite correct. The UK housng market is overvalued by any standard measure. They claim house prices are 11 x the average income and you claim that this is double what they actually are. The average house price, depending on what measure is used, is between 218-235k and the average salary is about 25k which gives a salary multiple of between 9 and 10 times average income. Business Week aren't far wrong compared to your estimate. 10x multiples are not anywhere near the historical average and means that housing is unaffordabe for an average working person e.g. first-time buyer who is a teacher, policeman
.
To me, that is overvalued and a clear sign that speculation due to cheap credit has entered the market. Speculation due to cheap credit was what brought down the US housing market in the absence of any recession (although the housing crash may cause one now) - why is the UK so special that it won't happen here? Dream on...
Name Withheld, Edinburgh,
PS...there is one thing. NO ONE EVER EXPECTS A CRASH. Thats why they happen
james, london,
indeed two year swap rates may well have fallen...however you are making the assumption that the fixed mortage rates will also fall in line with them. I think most banks will be building a little bit more of a spread into their business now.
james, london,
All I can say is that I hope that this piece was written before the Northern Rock fiasco unfolded and is just included in today's paper to fill what would otherwise be an empty space. The party is over - the days of the banks handing out mortgages to almost anyone who came through their doors are over. The property market is where it is because of this decade of cheap credit and when that dries up the market dries up. Treating your readership as idiots at this time is an excellent way to lose them as customers.
Graham, Oxford, UK
There are lies, damned lies and stats David.
All I can say to you is look at the number of shops closing down, how people you know who can't sell their home, how credit card junk mail has ceased (thank godness) and empty restaurants on a Saturday night.
This always was a sham boom based on EZ Credit, insane house price inflation (Nice one, Gordon) and complicit banks looking for short term profits. It was a nuclear arms race in lending.
A clearout is underway. The sham businesses will fail, houses will become affordable once again and the economy may recover on a more robust footing.
jonathan tedd, marlow,
Why is the economy in good health? It has been built on HPI and excessive governement spending. Employment is high mainly through government sponsered jobs that pay well and contribute little to the economy. NR is just a warning that the whole economy is bult on foundations of sand.
david barker, maidstone,
Is the average house price in the UK really just five to six times the average salary, as David writes? I just checked the BusinessWeek article, which David suggests is mistaken. It says the average house is $370,000 (GBP185,000) and that that's rougjly eleven times the average salary. That would make for average salary of about $34k (GBP17k). If David's right, the average house must be much cheaper or the average Brit is earning well over $60k. Anyone have the stats?
Ian, Nottingham, UK
David Smith says that to say that UK house prices are 11 times average salary is wrong - he says the multiple is half that. But he is mistaken. Financial pundits repeatedly do this, confusing average household income and average individual salary. Average individual salary was around £24k last time I looked (ONS), and average house prices are around £216k (BBC online, 24 August 2007). I make that an income multiple of 9. The Business Week figure he quotes is thus closer to the truth than his. If you are single, and a large fraction of the population are, then it is the multiple of 9 that matters, not a multiple based on household income skewed by having two earners contributing to meeting mortgage costs. Lets just remember these kinds of numbers: in 1996 one could buy a 3-bed semi-detached house in Oxford (Botley) for under £100k. Now it would be three times that. In summer 2000 a 1-bed flat in Brighton cost £60k; now it would be £150k (I know, because I bought it). Yet in summer 2000
Dan, Exeter, UK