A number of UK retail banks recently unveiled the rates they would offer for mortgages under the governments Help to Buy 2 scheme. Needless to say, the decision by banks to only offer rates of 5 per cent plus for 95 per cent mortgages under the scheme was met with cries of unfairness and opportunism. Unfortunately, it cannot be said that the latest round of support for the housing market has any altruistic motive on the part of the Government for aiding first time buyers, and has nothing to do with stimulating building of new stock.
Indeed, the support for first time buyers was already in place via First Buy. Meanwhile, New Buy was there to aid purchases of brand new properties in a bid to get developers to develop their land banks and start building. Needless to say, both schemes were limited in their scope and had a defensible rationale provided they only existed in the context of emergency support during a struggling market.
Help to Buy 2 has no such justification with the net now widened to include all buyers who don’t own a second home. They will be eligible for state underwritten support to buy any property worth under £600,000 with the help of taxpayer funded insurance for 20 per cent of a mortgage with only a 5 per cent deposit, and in turn we will see a proliferation of 95 per cent mortgages. What this is indicative of is a government that has lost patience in its own mantra of prudence and rebalancing the economy towards more productive types of spending. Help to Buy is really about one thing: ramping up consumer spending by way of re-leveraging the economy with more consumer debt.
On the plus side, boosting the rate of turnover in the market will have a noticeable impact on the economy in the short term. With 15 per cent of retail sales related to housing activities, the inevitable increase in the rate of transactions will be a boost to the coffers of estate agents, solicitors, financial services and other ancillary services involved in oiling the process of buying and selling property. That is not to mention the knock on effect it will have for tax receipts resulting from stamp duty and capital gains tax.
With regards to getting the consumer sector motoring ahead, the government should enjoy some success. With owner occupancy still at around 70 per cent, housing is by far the most significant material asset held by most consumers. This is important given that housing’s acknowledged systemic importance to the UK means secured borrowing against equity in a property is the cheapest form of lending you can possibly hope to get access to.
With available interest rates having been held even lower by both a low base rate and the Bank of England’s ‘Funding for Lending’ scheme, we would expect rapid increases in asset prices to encourage homeowners to release equity and borrow to fund current spending. This is the norm in a market where property prices rise rapidly, such as the last property bubble.
So, the short term picture should be rosy. What this could ultimately equate to, however, is debt fuelled growth underwritten by the state. There are a number of problems that will emerge over time though. These are:
1) Prices may run away from wages: Only recently we saw confirmation that real wages continue to struggle to gain traction. With inflation running at 2.7 per cent pared with a 0.7 per cent increase in earnings, consumers are being left with less money in their pocket after inflation. If house prices outpace wage growth, there will be a real temptation for banks to extend the earnings-borrowing multiple to maintain the growth in houses prices and the corresponding boost to their balance sheets. This will create a lot of overleveraged home owners.
2) Creating a bubble in London: It is of concern that the one region least in need of a boost to the demand side to ramp up property prices, London, is also eligible. A region experiencing an 8.7 per cent increase in prices plainly does not need a demand stimulus for its housing sector. Furthermore, what the regions outside of London beyond need isn’t a sugar rush, but job creation and growth in real income. With 21 out of the 25 worst-performing retail centres being to the North of the Watford Gap and unemployment in the North East rising, these regions require a more sustainable framework that will create jobs for the long term.
3) Digging an interest rate trap: With interest rates on Help to Buy typically in the 5 per cent region, these are not low interest rate loans. These buyers will be incredibly sensitive to interest rate hikes. A 2.5 per cent increase in the interest rate would cause considerable discomfort for these borrowers with an extra £300 per month potentially falling due for a £200,000 mortgage. This may skew the decisions made by the Bank of England if and when a bubble does inflate.
4) It encourages the misallocation of resources: By further incentivising mortgage lending, the government may be encouraging a misallocation of lending away from potentially more productive areas of the economy.
6) Encouraging consumers to re-leverage is not the right policy: This might make some sense if the economy needed it. As it is, we’ve just had a sixth consecutive month of growth in retail sales alongside a 3 per cent increase in spending.
If the government genuinely wishes to support demand for housing and first time buyers, it would be far more sustainable to significantly reduce the burden of stamp duty by raising the threshold at which it becomes payable.
The supply side can be nudged in to action by relaxing planning laws in a meaningful way that incentivises building and not Nimbyism (as highlighted in Tom Papworth’s excellent recent article on this site) as well as easing the regulatory burden of rules that govern the building of homes. It has even been acknowledged by the CEO of the UK’s largest mortgage lender, Lloyds Banking Group that this is the only real sustainable solution to the problem of housing in the UK.
If these measures are not enough to unclog the blockages in the way of increasing supply where it is needed, it may well be necessary to allocate additional funding for the construction of affordable housing. This is not something that should be resisted if other efforts to boost supply fail, and it is certainly preferable to stacking up off balance sheet liabilities that may become payable at a particularly inconvenient time- most likely a general banking crisis.
The Government should look to exit this at the earliest moment when it becomes apparent wage growth is not keeping pace with house price rises. If they fail to do so, the Bank of England must ensure it is not caught asleep at the wheel and intervene. In the meantime, we can only hope George Osborne stays true to his desire to deliver a “sustainable recovery” and avoids the temptation to binge on the sugar high of a housing boom.