Sunday, September 16, 2007
Housing stalls - but don't expect a crash
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

For extensive coverage of the Northern Rock affair, see the Sunday Times website. This is my column.


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.

From The Sunday Times, September 16 2007