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The housing market is at best becalmed, and at worst in the early stages of a crash. Sales have fallen year-on-year for the past four months, and according to the Lloyds Bank Index, prices were down 0.4 per cent in the year to August – the first annual decline for nearly three years. In London, the decline is particularly sharp, with prices down 3.3 per cent overall and falling much further in the most expensive areas. In Westminster, prices are running around 20 per cent lower than a year earlier, and in Kensington and Chelsea they are 14 per cent down.
What’s up? The housing market faces three challenges: more expensive mortgages, increases in taxation and a weakening job market.
While the Bank of England has held its interest rates at 3.75 per cent since last December, and is expected to do so today, there have been two adverse factors pushing up mortgage rates. One is what is happening in the bond markets, where yields have risen sharply. The cost to the Government of borrowing for 10 years – the 10-year gilt yield – touched 5.4 per cent on Wednesday, which compares with 4.6 per cent a year ago. This pushes up rates for all borrowers, including anyone wanting a fixed-term mortgage. The average two-year fix is currently just over 5 per cent.
The other force pushing up mortgage rates is the expectation that the Bank will have to increase its rates in the coming months as inflation continues to rise. The Consumer Prices Index (CPI) is up 3.1 per cent and the version of that index including the cost of housing, the CPIH, is up 3.3 per cent. Independent forecasters expect both to climb above 4 per cent in the coming months. As a result, the Bank will be under huge pressure to push up rates in order to fulfil its mandate to reduce inflation to 2 per cent. Markets expect the first increase in November, followed by further rises next year.
The combination of these two factors makes it most unlikely that mortgage rates will fall in the next two years and, realistically, means they will almost certainly rise.
Homebuyers should also expect higher taxes. There’s no point in trying to second-guess what the new Chancellor, John Healey, will do in his first Budget on 28 October. But the general financial pressures, including the additional interest cost of financing the national debt, make some combination of higher taxation and lower public spending inevitable. The so-called mansion tax has already been announced and will take effect in 2028, and there is the prospect of higher council tax increases. So any additional burden will pile more pressure onto homebuyers already facing a squeeze, and some prospective purchasers will be forced to cut the price they are able to offer for a home as a result.
Third, there’s the job market. So far, it has held up reasonably well in what has been dubbed a “low hire, low fire” environment. But the number of people employed in the private sector has been falling steadily over the past two years, while this has been only partly offset by an increase in public sector hiring. Young people have been bearing the brunt of this weak job market, so the fall in employment does not yet seem to have affected mortgage applications. The under-25s who are hardest hit would not be buying houses yet anyway. But it’s hard to see private sector payrolls, which have been falling by around 10,000 to 20,000 a month, turning upwards. The ONS reported this week that in August they fell by 34,000. If, looking ahead, private sector hiring does not pick up, that will start to affect the number of people who can qualify for a mortgage.
So what will happen to the housing market? The obvious danger is that these three factors – higher mortgage rates, higher taxes and falling employment – will combine to push prices sharply down. This is the calm before the storm. The most recent crash in UK house prices came between September 2007 and March 2009, when the average price fell from £175,052 to £142,278. That’s a fall of 18.7 per cent, and it took until August 2014 for prices to get back to the 2007 peak.
We have to accept the possibility that this could happen again. But our financial system is much more robust now than it was then. Remember how many banks, including Royal Bank of Scotland and the Bank of Scotland, nearly went bust and had to be rescued. And there will always be cash buyers. So my instinct now is while there may be a crash, it’s more likely that there will be a stagnant market for a couple of years, maybe longer. Prices will slither down, perhaps by 2 per cent or 3 per cent a year, so that overall the market may bottom out between 5 per cent and 10 per cent lower than the peak this summer before it starts to climb again.
On a long view, it’s almost always sensible to buy a home. But the next couple of years will be bumpy.
Need to know
If you hunt back for predictions of the 2007-09 housing crash, they are few and far between, though there were a few exceptions. Fred Harrison, in his book Boom Bust, published in 2005, argued that there was an 18-year property cycle and did indeed predict a crash in 2007. But most commentators were cautious, and some optimistic, most notably Gordon Brown. In his last Budget as chancellor in 2007, he declared: “We will never return to the old boom and bust.”
Actually, his former economic adviser and later an MPC member, David Miles, publicly warned about the looming housing market bust in November 2006. He was chief economist for Morgan Stanley at the time, and he wrote: “A substantial fall in real house prices is likely at some point in the relatively near future, though it could yet be one or two years away.” The headline in Forbes magazine, which published it, was “UK Economist: Prepare for Housing Crash”.
I think that is pretty darned good. He is now a professor at Imperial College. I know him, much admire him, and am glad that he is on the OBR’s Budget Responsibility Committee right now. I also thought I should, ahem, do a quick AI check on what I was saying at the time, and it wasn’t as specific as that.
But I did start a column in The Independent in July 2006 saying: “It is the little signs that give you an early warning that something important may be happening. In this case it is the matter of US house prices, for, as here in the UK and in some other markets, it has been a housing boom that has helped support consumption growth.” And the headline was: “How a US house price correction could come home to roost on this side of the Atlantic”.
But while you can argue that a “correction”, in market jargon, is a fall of between 10 per cent and 20 per cent, it wasn’t a loud enough warning. And now?
Well, at the moment I do feel comfortable with the predicted decline of 5 per cent to 10 per cent, and that this will be a fairly calm process. But let’s wait for the Budget for a steer, because I do think there is a danger that these people who run our government have little idea of what may hit them.
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