Choose any benchmark and be fearful: The average UK house price, at £162,621, government figures show, is more than six times median incomes. According to the OECD, this means UK house prices are 21% overpriced against incomes and the eighth most overvalued in the world, with only such countries as Belgium, Norway, New Zealand, France and Australia seeing more highly inflated prices.
Prices suffered a big correction following the financial crisis, but Office for National Statistics (ONS) figures show that they currently stand just 1.6% below their January 2008 peak. This apparent strength is the result of a combination of the Bank of England’s monetary easing policies – an ultra low base rate and quantitative easing – providing artificially cheap credit to homebuyers and lenders’ forbearance toward non-performing mortgages.
Now with the average mortgage rate still only 3.3% and the government’s Help to Buy schemes kicking in, prices are once again accelerating. ONS figures show that nearly half of the 4.7% rise in prices since the beginning of 2010 has occurred this year. The Nationwide and Halifax price indices are up 2% and 4% respectively this year.
Fathom Consulting in London has revised its housing forecast for a slight drop in prices both this year and in 2014 to predict increases of 7% and 12% respectively.
“The reason we’ve changed our mind is almost entirely down to the Help to Buy scheme, particularly the fact that anyone can now buy a house with a 5% deposit rather than a 20% deposit,’’ says Andrew Brigden, chief economist at Fathom Consulting.
“We’ve had low rates for years, but schemes like the Mortgage Guarantee Scheme are allowing people to actually access those low mortgage rates. They’re making it as easy as it’s ever been to get onto the housing market at a time when prices relative to incomes are as stretched as they’ve ever been; it’s only very low interest rates that are just about keeping things sustainable at the moment.
“This is not going to provide an upturn to a level that’s going to be sustainable at any sensible interest rate. At some point there will be correction – triggered by an interest rate rise or an end to Help to Buy – and it’s probably going to be tied to the political cycle so there’s a risk that by 2015 prices could be coming down again. Either would be enough to trigger a correction and the chances of one or both of those happening by about 2015, I would say, are pretty high.’’
Brigden says the Bank of England's Monetary Policy Committee has been trying to convince the market that rates can remain on hold until 2016, but he predicts it will hit its 7% unemployment target much earlier – some time next year – at which point the justification for keeping monetary policy exceptionally loose will fade.
Even increasing the policy rate to historically normal levels of 4% or 5% – pushing mortgage rates to 6% or 7% – could trigger a correction of 20% to 30%, according to Fathom.
Home loans are usually 2% above the base rate, which is normally 2% above inflation, currently around 3%. The MPC has not acted to curb above-target inflation, but were it to fail to tighten in response to unemployment dropping below the 7% threshold as well, the market could force long-term rates higher by pushing up bond yields.
The Help to Buy schemes are being rolled out in two phases. Beginning in April this year, the initial NewBuy Guarantee scheme allows buyers of new-build homes with a 5% deposit to secure up to a 95% mortgage, with the government providing a low-cost equity loan for the other 20% of the deposit. Part two, due to start in January, is for the whole housing market to assist people with a 5% deposit to buy by way of a government-backed mortgage guarantee.
NewBuy is an extension of the government’s FirstBuy equity loan scheme launched last summer which provides first-time buyers of new builds with a 5% deposit with a low-cost equity loan of up to 20% of the property’s value.
The concern is, what happens to prices when the punch bowl is removed when $130 billion set aside for Help to Buy runs out?
“Help to Buy is a bad idea because if it’s successful it will raise prices that are already 15% to 20% overvalued with risks for the economy and taxpayers, once the artificially created house price bubble bursts,’’ says Capital Economics property economist Matthew Pointon.
However, Pointon says he believes the mortgage guarantee scheme, which could facilitate 10 times as many sales as the deposit loan scheme, will flop like FirstBuy, which has achieved just 2.3% of its 100,000 target.
Monument Securities chief economist Stephen Lewis sees prices being supported by longer-term structural factors such as insufficient supply of housing in areas where it is required to meet rises in population, the falling size of households, and second home ownership.
“The macroeconomics are probably less supportive of house prices than they used to be. Even today the level of mortgage approvals is fairly low compared with what it was before the financial crisis and so I think you’d be hard pressed to say credit availability is driving house prices up.
“It’s going to be a long time before lenders feel so enthusiastic about future prospects that they begin lending on a scale that was regarded as normal before 2007. Interest rates are very low, which means that more people are comfortable with the idea of servicing a mortgage than would be the case if rates were at historically normal levels.
“But that is likely to be no more than a short-term influence on the market because if we get back to growth conditions in the economy, interest rates would go back up and that would mean that many people who now believe they can afford a mortgage would find that they can’t. The result of that might be that property they purchased in this period would come back into the market very quickly.”
Lewis concludes: “The most important date when forecasting interest rates is after the election in 2015 when the political pressure is off the government and it won’t mind rates going up. I’m not optimistic about the economy and I think it would only take a very small rise in rates to choke off any demand that does develop.’’