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House prices: was boom down to low supply or loose credit?

It is one of those seemingly perennial questions. Have house prices gone up because of low supply, or was the boom down to easy supply of money?

It’s an important question. Property bulls argue that house prices have got years of growth in them, thanks to demographic factors meaning demand is set to outstrip low supply. Market forces, it is then argued, will ensure prices just go up and up.

The counter argument is that actually, the demand the bulls refer to is not actually demand in the proper economic sense at all. An economist would define demand as being related to what consumers can afford, quite different from aspirational demand.

So the question then, is not are house prices going to be driven up because there is a shortage of homes, it is rather can people afford to splash out more money. If they can’t, then it’s irrelevant how much they want a new home, if they can’t afford it, well that’s it, end of debate.

Now, Capital Economics has taken a look at house price growth over the last four years or so, and asked how much growth in house prices has been down to looser credit.

“Over the last ten years or so,” it said, “there has been an increase in the availability of mortgage credit, and low mortgage rates have made borrowing more attractive. At the same time, mortgage income multiples have been rising; median income multiples have now reached historic highs.“

Okay, just for a moment, peek back even further.

In 1977, the median income to mortgage borrowing ratio was just 1.86. By 1990 this had jumped a little to 2.27, by 2003 it was up to 2.69, but from 2003 to 2005 the ratio increased to 3.13 – a massive jump in just two years.

Even more tellingly, in 2005 no less than 17 per cent of loans were for mortgages that carried a four-to-one or higher income ratio, compared to just 5 in 2003 and 4 in 1990.

Now actually, that is quite interesting. Because, you may recall, in late 2005 the housing market did a surprising about turn. From the end of 2004 to the summer of the following year, the housing market had been limping, then all of a sudden it roared back into life,

What is clear is that, during that period, there was a sudden jump in the size of gearing borrowers were willing to take on. A big jump.

Capital Economics reckons that, “Without the relaxation in credit conditions, average house prices would have risen by a cumulative 19 per cent since the end of 2003. In fact, the Nationwide house price index reports that they have risen by 37 per cent over this period. In other words,” it says, “looser credit conditions can explain about half of house price growth over the last four years.”

This is significant of course, because right now, credit conditions are becoming a lot tighter.

Capital Economics’ conclusion: “If income multiples had stayed at their long-run average since 2003, average house prices would be around 13 per cent lower than they are currently. In contrast, our analysis suggests that a supply shortage has played only a minor role in recent house price inflation and, therefore, cannot necessarily be expected to support house prices over the next few years.“

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  • 293 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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