Wednesday, January 23, 2008
Mervyn and the minutes
Posted by David Smith at 06:00 PM
Category: Thoughts and responses

For those who have not seen it, this is Mervyn King's Bristol speech and these are the minutes of the monetary policy committee (MPC) meeting which voted 8-1 to leave Bank rate unchanged at 5.5%. Also today, we have fourth quarter GDP figures which were stronger than expected at 0.6%.

What are we to make of all this? I'll have more to say on rates on Sunday, but a couple of points. Firstly, the minutes. Though the vote to hold was clear-cut (Blanchflower was the only cutter) it was also partly tactical. Back-to-back rate cuts were not warranted, the MPC thought, particularly when money market rates had eased and sterling fallen. There was also concern about "supply-side" inflation pressures.

Second, King's uncomfortable "not so good" combination of slower growth and higher inflation. The governor thinks a 5.5% Bank rate is restrictive and that a lower pound is needed to rebalance the economy. But he is worried that what the Bank sees as a temporary hike in inflation will raise inflation expectations. There's a bit of circularity here - while money market inflation expectations are restrained by higher rates, one factor pushing up public inflation expectations has been higher mortgage costs.

So the Bank isn't following Bernanke's dramatic moves. But King will want to avoid appearing too rigid.


Its becoming hard to see why the MPC needs to lower rates any further. Despite the squeals from some retailers the high street has had a mixed Xmas at worst, after stellar results from Morrisons and J Lewis you have to feel Marks and Sparks and Tesco are looking for escuses for their poor perfomances.
The fourth qtr GDP growth at 0.6 is very respecatable. With oil, food, factory gate and PPI looking bad it seems the risks are mainly with infaltion. You can argue about tightening credit conditions but that has been happening for the last six months and doesn't seem to have much affect on the wider economey vis. 4th qtr gorwth 0.6.
It seems the only thing so far taking a pounding is property, which increasingly looks like a bubble market that has been well and truly pricked.
Do think the bank will lower rates to protect one asset class ?
Bryan C

Posted by: Bryan C at January 24, 2008 01:01 PM

With cars on the brain having just read Clarkson, it seems from your comments Bryan you are basically advocating driving down the motorway using only your rear view mirror to navigate. Of course rear view mirrors are useful tools, but when driving, or determining appropriate monetary policy for that matter, the most important place to be looking is forwards.

You won't hear any arguments from me that house prices have risen too much, too quickly in recent years. There have been solid fundamental reasons for much of the growth, most important to my mind are an increase in the number of households (due to immigration, an aging population and so on), confidence in economic prospects and stability of interest rates and finally more flexible (wreckless?) mortgage lending (interest only, 100%, longer terms etc). The bit of froth left over I blame almost singlehandedly on Sarah Beeny/Phil and Kirsty types for convincing thousands of clueless wannabes they can be millionaires in 2 weeks by buying a run down semi and putting in a granite worktop. The flexibility in mortgage lending is over. In recent weeks we have seen the big lenders slashing max LTVs, bumping up variable rates, upping fees etc. The bit of froth is close to being blown away. When the buy-to-letters wipe the dust from their calculator and work out that their rental yields inclusive of costs are falling miserably short of required mortgage payments, coupled with a fear of falling capital values, they will be off in a shot. But to suggest that the upcoming downturn in UK housing will not lead ultimately to lower rates, completely ignores the fact that housing is vital to consumption, economic growth and therefore inflation. Its hard to ignore the current inflationary pressures but with such risks to growth ahead from a massive contraction in credit, rates have to come down (alot I think) to ensure we dont become the new Japan.

Still, life could be worse. It could be Germany and France.....oops, sorry I mean the ECB deciding our monetary policy. Anyone see Weber comments today? Terrifying. They are going to look very silly soon methinks. Buy Euribor. Just steer clear of the March contract, something tells me we havent seen the last of those pesky TED spread issues.

Posted by: The Bear at January 25, 2008 10:53 PM

Mr bear,
I would never advocate driving forward whilst solely using the rear view mirror; however whats happened is fact, what may happen is guesswork. And I suspect that the last MPC decision was a panic one, due to the howls of agony form various interest groups e.g. CML, retail etc. they claimed (the interested groups) that the economy had fallen off a cliff, in reality it seems more like Mr. Clarkson had touched the brake whilst turning the corner.
As for housing and the argument "there is a lack of supply".....well when I went to school, admittedly a long time ago, I was told there was two sides two to this equation the said supply but also demand. So tell me what is the demand, how many people are there in this country ?
Mr Bear what is the supply versus the demand ?
Bryan C

Posted by: Bryan C at January 25, 2008 11:44 PM

Demand is a function of lending multiples. The number of people in the UK is irrelevant. Instead it's the number of people that can borrow 6* salaries. No more credit, no more demand. Simple.

Posted by: Nigel Watson at January 26, 2008 09:50 AM

This is getting a bit surreal. The number of people in the country is irrelevant? Nonsense. The growth in the number of households is absolutely relevant. And income multiples average just over 3.

Posted by: David Smith at January 26, 2008 02:25 PM

The number of people living in the UK does not have a major impact on the demand for Ferrari cars either. Potential demand does not drive prices, only effective demand (demand that's backed up by money). In the UK housing market if the access to cheap and easy credit (the possibility to borrow 6x salary) a significant element that supports the demand for housing vanishes, and with it sky high house prices. No credit, no demand.

Posted by: Nigel Watson at January 26, 2008 07:32 PM

Nice to see you starting a sentence with a conjuction Mr Smith - I see that Oxford education has really paid off, hasn't it? ;-)

Joking aside, your comment show that old adage "there's lies, dam lies & statistics" rings true; 3x average salaries???. I take it that's stated income, i.e. of the "exaggerated on the mortgage application form" kind!.

U.K. recession within 2-3 years, mark my words......

Posted by: Matthew Strange at January 26, 2008 11:49 PM

Strange by name .... and what's a conjuction? Why don't you check the figures rather than rely on something you've heard from a bloke in the pub? The CML website has the numbers. Self-certified mortgages are a tiny proportion of the total.

Yes Nigel, most people take out mortgages to buy properties and they'll continue to do so. The rate of growth of mortgage lending will slow, but there'll still be plenty of it. So In November, well into the credit crisis, mortgage lending was more than 10% up on a year earlier. You'd do well to check the figures too. And just think about the sheer illogicality of your idea that population is irrelevant for demand. Seriously bonkers.

Posted by: David Smith at January 27, 2008 01:02 AM

The number of people living inthe UK does have a profound effect on the demand for products, such as Mars bars, that are typically bought with small amounts of cash. The availability of credit does not have much of an impact on the demand for Mars bars. However, this situation is turned on its head when one considers the demand for houses. Most people have to borrow significant sums of money to buy houses. There are millions of people living in the UK who would like to buy a house (potential demand), but who cannot because they cannot get a mortgage large enough to purchase a house a today's prices. As the availability of credit worsens the demand for housing will fall.

When considering the demand for housing the number of people living in the UK is not as important as the availability of credit.

Posted by: Nigel Watson at January 27, 2008 10:08 AM

Don't think you're ever going to get this one. Mortgages depend on the borrower having an income, which depends on the borrower having a job. The more people in work, the more incomes are earned, therefore the greater the demand for mortgages. Credit availability may affect this in the short-term, as will the level of interest rates, but this is the relationship that drives housing demand.

Posted by: David Smith at January 27, 2008 11:06 AM

In 2002 the average amount paid by a first time buyer was under 100k, today its 175k.

Sure there's been an increase in the demand for housing but the main drivers have not been

1. An increase in income
2. More households.

Instead, the bulk of the increase in demand has come as a result of

1. Increased lending multiples. In 2002 you could find a lender willing to advance 6 x salary. Last year, before the credit crunch, you could.
2. Increased LTVs.
3. Increased availability of BTL mortgages.
4. Fashion / specualtive demand created by property porn TV

If (and it is still an if) the credit crunch really bites expect housing demand (effectivem, not potential) to crash and with it recession

The number of people living in the UK is not as important as the number of people living in the UK that have access to the loanable funds needed to purchase a house at today's prices.

The example of America proves that a house price crash does not require a recession to preceed it. In fact the American example shows how a speculative bubble popping can cause a recession. Exactly the same thing will happen in Britain.

Posted by: Nigel Watson at January 27, 2008 01:49 PM

Until you take the trouble to look at the numbers, rather than relying on hearsay, you'll carry on being confused. The median first-time buyer property was £76,000 in 2002 and is £130,000 now. In that time, the median income multiple for first-time buyers has gone up from 2.67 to 3.33. The median first-time buyer income has gone up even more, from £26,000 to £35,500. The median loan to value ratio has remained unchanged at 90%. The number of households has risen by a million over the period.

Posted by: David Smith at January 27, 2008 03:34 PM

Well, still no-one can tell me how many peeps there are in the country. Mr. Smith agrees demand in the housing market is a function of the number of folks living here, so how many peeps are there ? and numbers of households is a fudge figure, whats the average number of individuals in that house hold ?
In fact now I think about it after (two glasses of red) the number of households is the statistical equivalent of CDO's loads of them about but no-one knows whats in them !

Posted by: Bryan c at January 27, 2008 09:08 PM

Are you sure it was only a couple of glasses? There are an offiicially-estimated 60.6m people in the UK and 25.1m households in Great Britain. Average household size is 2.32 people and getting smaller by the year.

Posted by: David Smith at January 27, 2008 09:22 PM

So if the median is 3.33 then that means there are a number above 3.33 and those are going to be a problem going forward.

Interestingly looking back to '89 the median then was only 2.22.

Posted by: Piers Ponsenby-Smythe at January 27, 2008 10:29 PM

Thanks David, interesting but wrong you have taken your population estimate from the ONS and that figure was for mid 2006. In the previous six months to mid 2006 the population was estimated to have grown by 349,000 people. So a simple extrapolation would make it more like 61,587,000. Although simple extrapolations are usually wrong.
But it rather proves my point that no-one knows how many people are the UK at any one time and I would argue that the Mid 2006 figure shouldn’t be called an estimate a wild guess might be a more accurate description. It is calculated using the IPS (International Passenger Survey) which has more holes than a colander, which is why the task force was set up to find how to get accurate figures. Which brings me to my wider point when people talk about the housing market and supply and demand and then go on to say “limited supply of housing”, they are talking tripe because no-one knows what the demand is.
Bryan C

Posted by: Bryan C at January 28, 2008 02:29 PM

Boring. And wrong. The IPS helps the ONS with one component of population growth - migration. Separate from the population estimates, we have good information on the growth in the number of households, a key component of housing demand. So not tripe at all.

Posted by: David Smith at January 28, 2008 03:29 PM