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http://news.independent.co.uk/business/com...ticle346267.ece

Hamish McRae: If house price rises were made of straw, would spending fall through the floor?

Published: 19 February 2006

There was a sudden jolt last week to the "steady as she goes" perception of the UK economy.

Just a day after the Bank of England had published its Inflation Report, which suggested the economy would pick up a bit more speed through this year, came news of a slump in retail sales in January. Year-on-year, the rate of increase in sales fell from 4.3 per cent in December to just 1.3 per cent. With prices falling in the shops, this means, in money terms, that we are spending hardly any more now than we were a year ago.
In recent years, there has been a tendency for the proportion of national income that we consume to creep upwards. In addition, the amount we save (or fail to save) is quite closely linked to house prices. When prices are rising, we save less, and vice- versa, as the third graph shows. But in the past five years there has also been a tendency for public spending to creep upwards too, with the fiscal deficit now about 3.5 per cent of GDP.
The best study I have found on all this is a new paper, "UK house prices, consumption and GDP in a global context", by Alan Farlow of Oriel College, Oxford (not yet published but available at www.economics.ox.ac.uk). It looks in-depth at this relationship between house prices and consumption and also at the implications for public borrowing. Why the last? Well, because debts run up by a government are ultimately debts of British people. Mr Farlow argues that there are three explanations for the global housing boom: low interest rates; greater economic stability; and a global housing bubble. The main explanation, he says, is provided by the third of these.

The trouble here is that housing bubbles (unlike other investment bubbles) do not generate an increase in income-generating assets. Yes, if people rent out property, they make money. They may also benefit from the rise in prices. But this is mainly a question of redistributing wealth - housing as a form of consumption.

Unfortunately, Mr Farlow notes, "politicians like bubbles, too. They love the feelgood factor bubbles generate [while they last] and the badge of approval seemingly bestowed on macro-economic policy [even if quite the reverse is going on], and they even become bubble participants themselves." No names, no pack drill but you could apply this criticism to a person whose address starts with "No 11". The big danger here is that if people have over-invested in housing at the cost, for example, of saving for pensions, then were house prices to fall they would have to compensate for their past errors.

There's no place like home for making you feel wealthy

Meanwhile, thanks to the housing boom, the total value of British homes has trebled over the past decade from £1,100bn in 1995 to £3,400bn last year.

This is pretty striking stuff. For a start there is the total domination, in terms of housing wealth, of London. Homes in the capital are worth £584bn, more than all the properties in Scotland, Wales, Northern Ireland and the north of England combined. Even more astounding is that the North/South gap has narrowed over the past five years.

From a macroeconomic perspective, the value of the stock is huge even when set against people's borrowings. Outstanding mortgage debt is "only" £967bn, which means there is an equity of £2,400bn out there. This is also a lot larger than our stock of other financial assets - bank savings, shares, pension assets and so on - of £1,600bn.

This differential would explain why changes in property prices have become much more important than changes in share prices in determining how rich people feel. Shares rose much faster than the housing market last year but people react to the latter. This helps explain why the UK was able to weather the collapse of share prices from 2000 to 2003 without damage to demand, because houses went on increasing in value.

But naturally, were house prices to soften, the impact on wealth would be correspondingly large in the other direction.

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The perception that house prices are falling is enough to trigger recession. To realise that the thing that has been creating all that "wealth" may fall in value has a disproportionate psychological impact because it undermines confidence. With the UK economy on the knife edge it will only take a gentle push to precipitate into a deep chasm.

There is a great deal of fear in the public psyche at present which will affect the economy. Bird flu (currently devastating the French economy that is heavily reliant on poultry exports), the Moslem uprisings, unemployment rising and so forth. Not the sort of climate that people can have confidence that houses can go on rising forever.

Is bird flu a threat to humans?

http://www.iii.co.uk/news/?type=afxnews&ar...&action=article

Are people fearful of the Moslem uprisings?

http://portal.telegraph.co.uk/news/main.jh...xportaltop.html

Last night, Sadiq Khan, the Labour MP involved with the official task force set up after the July attacks, said the findings were "alarming". He added: "Vast numbers of Muslims feel disengaged and alienated from mainstream British society." Sir Iqbal Sacranie, the secretary general of the Muslim Council of Britain, said: "This poll confirms the widespread opposition among British Muslims to the so-called war on terror."
The most startling finding is the high level of support for applying sharia law in "predom-inantly Muslim" areas of Britain.

How will this impact House Prices in Britain and especially in areas that have large populations of Moslems?

How can we make things better?

"A spokesman for Charles Clarke, the Home Secretary, said: "It is critically important to ensure that Muslims, and all faiths, feel part of modern British society. Today's survey indicates we still have a long way to go… [but] we are committed to working with all faiths to ensure we achieve that end."

The Americans work on assimilation with the goal of making society a "melting pot" giving rise to a social consensus. Britian, on the other hand, is trying to create a "stew" where different parts of society retain their distinctive flavour without becoming a consensus but where "diversity" is valued. Can Britain, once a "Christian" nation, become a diverse society and still retain an identity?

Edited by Realistbear

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Nice find. Astonishing to see that "equity" in housing is so much more than the money in savings, shares, pensions etc. No wonder its such a key indicator of how wealthy people feel (even if it's a false one).

That is interesting isn't it. And the only way they can realise that equity is if people buy their houses at vastly inflated prices. Which of course they're not doing so much now. Looks like all is well for a HPC :)

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Interesting piece. His prediction:

“it is more likely that we will have a long period - say, four years - of relatively small rises in living standards. People will pare back their borrowing a bit, save rather more for their pensions, hold down any growth in their consumption. The Government will do the same, with increases in spending levelling off (as the Chancellor plans) and a gradual start made on correcting the budget deficit.”

Strikes me that this depends on people and the government making rationale decisions and getting their finances in order. If recent history has taught us anything it was well summed up in the phrase ‘irrational exuberance’. And:

Unfortunately, Mr Farlow notes, "politicians like bubbles, too. They love the feelgood factor bubbles generate [while they last] and the badge of approval seemingly bestowed on macro-economic policy [even if quite the reverse is going on], and they even become bubble participants themselves."

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The paper is at:

http://www.economics.ox.ac.uk/members/andr...Consumption.pdf

He has other articles in this series at:

http://www.economics.ox.ac.uk/members/andr...t1UKHousing.pdf

(UK HOUSE PRICES: A CRITICAL ASSESSMENT)

http://www.economics.ox.ac.uk/members/andr...t2UKHousing.pdf

(THE UK HOUSING MARKET: BUBBLES AND BUYERS)

And more forthcoming at (approx. half-way down the page):

http://www.economics.ox.ac.uk/members/andrew.farlow

Viz:

Part Four: Risk Premia and House Prices, forthcoming April 2006

Part Five: Mortgage Banks and House Prices Forthcoming

(I haven't had a chance to look at any of these yet)

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The numbers cited in the article are interesting

What strikes me is the figure of total housing stock being £3.4 trillion.

The current GDP is ~£1 trillion, so this gives a price to earnings ratio for the housing market of 3.4, which doesn't seem unreasonable :huh:

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The current GDP is ~£1 trillion, so this gives a price to earnings ratio for the housing market of 3.4, which doesn't seem unreasonable :huh:

Only because they're notionally valued at that level, people may only have outstanding mortgage debt of £50k on a £500k property if they bought it way back when. If everybody had to re-purchase their own house at current levels, a collective £3.4 trillion, there would be real problems as the interest payments sapped the economy.

GDP is not post tax take home pay, a lot of it is business and government transactions, not the consumer.

Edited by BuyingBear

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  • 302 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%



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