The OECD (Organisation for Economic Co-operation and Development) finding that housing in the UK is, on at least one criterion, among the most overpriced in the world will come as no surprise to young couples locked out of the housing market or to those families condemned to substandard housing conditions and high rents.
Even those, however, who acknowledge the damaging impact of the crisis on both the economy and social cohesion, continue to analyse it in market terms. It is, they say, a matter of either inadequate supply or excessive demand, or both, and is to be resolved either by scrapping planning protections and providing more opportunities to developers, or by restricting the number of potential buyers, particularly those from overseas.
This is, however, to mistake the real issues. Our overpriced housing market is the product of decades of mistaken policies. It is, as the OECD report suggests, an affordability, not a supply crisis, and reflects a growing asset inflation and a capital structure that is now completely out of control.
The housing market, it should be remembered, is unlike any other. Experience over decades has taught house-owners that the value of their homes, unlike any other asset of remotely comparable value, will go on rising over time – and much faster than their incomes or any other asset. In buying a house, they not only gain necessary accommodation, but also an appreciating capital asset.
They finance the purchase of that asset – probably the most expensive they will ever buy – by obtaining a loan on mortgage. Their bank will be keen to lend to them because it is the easiest and most profitable way for the bank to make money; there is no shortage of willing customers, the returns are predictable and high, the security is almost always easily realisable, and the rate of default is in any case comparatively low.
The house-buyer can be confident, once the house is purchased, that inexorably rising house prices – funded by the banks’ willingness to go on lending more and more – will reduce the comparative cost of the mortgage, and the rising value of the equity (and perhaps a larger mortgage) will allow the purchase of a yet more expensive property next time.
This process – which really built up a head of steam when banks moved in to replace much more conservative building societies and to dominate the mortgage market – has meant that, over a generation or two, there has been a constant and repeated injection of new mortgage finance into the housing market (at a much faster rate than the growth of incomes or of most other asset values) almost every time that a house is purchased. That repeated injection of new money comes on top of the already inflated value brought about by earlier decades of mortgage lending and has been steadily and cumulatively built into the rising market prices of our houses.
If there were to be a sudden increase in the number of homes being built, this would simply provide a new stimulus to the process. The main effect would be to increase the profits of both banks (who would leap at the chance of lending even more) and property speculators and developers; the affordability crisis would remain untouched.
The problem arises, in other words, not for reasons of supply and demand, but because of the way we finance (and tax, or fail to tax) house purchase and ownership. It is no accident that, while marking us as one of the worst offenders, the OECD identifies other countries, such as New Zealand and Australia, with a similar reliance on bank lending to finance house purchase, as principal culprits as well.
The scale of the problem can only be understood when we realise how powerful an impact on our economy is created by bank lending for house purchase. As the Bank of England conceded in a ground-breaking report earlier this year, by far the greatest proportion (at around 97%) of new money in our economy is created by the banks out of nothing – and most of that goes to finance house purchase.
When the banks lend money on mortgage, the loan in no way represents real money, that is, money deposited with them. They create that money by a simple book entry – the stroke of a pen, or today, a computer keyboard. It is that bank-created money that artificially inflates the value of the class of assets – housing – into which it is principally directed.
This process, endlessly repeated, operates as a giant mechanism for transferring wealth to home-owners, largely in the south-east, and away from those who are debarred by the inflationary effect of the process on house prices from ever sharing in it themselves.
Our policy-makers seem to have little understanding of what is happening. There is just a small ray of hope; our central bankers, who have been asleep at the wheel on this issue for the last three decades, have begun to stir. The Bank of England Governor, Mark Carney, it seems, has begun to look at “macro-prudential” measures – following the example of the Reserve Bank of New Zealand – with the aim of restraining bank lending for house purchase.
Such measures masquerade as “prudential”, but their real purpose is to address macro-economic issues, and in particular, to relieve inflationary pressures without subjecting the whole economy to higher interest rates. They might just make our housing more affordable as well.Tags: Domestic (UK)
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This post was written by Bryan Gould