There is no bigger purchase than a house. Ask most individuals who have at some point in their life purchased a house and they will tell you about the considerable time they devoted to making the decision to purchase. It’s not like rushing to a supermarket and purchasing a kilo of sugar. The decision to purchase a property is not taken lightly: the mood music has to be right. Consumer confidence is therefore an important ingredient for an active housing market. The latest mortgage approval data from the Bank of England suggest the music is not right!
April’s mortgage approval numbers continue to demonstrate the on-going fragility of the UK housing market and, in turn, of British households. April saw 45,166 mortgages approved for house purchase. What makes this figure particularly noteworthy is that it is the lowest level recorded in the month of April since the Bank of England figures started back in 1993. It is also 9% lower than April 2010. Some commentators have argued that the number of public holidays in April contributed to the fall in activity. But, 138,756 approvals over the period from February to April was 4.3% lower than over the corresponding period last year. This would suggest that we can’t lay the blame for low levels of mortgage approvals solely on hot cross buns and Kate Middleton!
The weakness in mortgage approvals data has been regular news for some time. Over the past two years the number of approvals per month has been close to 50K compared to about 89K over the past ten years. What makes the latest figures troubling is that there is no indication of recovery any time soon. Rather, the figures show that housing demand may be weakening yet again. If we exclude December’s low of 42,772, when housing market activity was hit by the harsh winter conditions, April’s figure is the lowest since March 2009.
The weakness in the demand for housing can in large part be attributed to the poor mood music: economic growth remains fragile, average real incomes have been declining and unemployment levels are expected to rise over the coming months. Furthermore, households are naturally reluctant to purchase property is they think house prices may fall further. All in all, we can expect the weakness in housing demand to persist for some time. The question seems to be one of just how weak housing demand will be. The next few months promise to be very interesting to say the least. Keep listening to the music!
Articles
UK mortgage approvals hit record low in April Telegraph, Emma Rowley and Harry Wilson (2/6/11)
Mortgage approvals fall to record April low Guardian, Mark King (1/6/11)
Mortgage approvals fall to two-year low Financial Times, Norma Cohen (1/6/11)
Mortgage approvals hit new low, Bank of England reports BBC News (1/6/11)
UK mortgage approvals drop to lowest in four months on lower confidence Bloomberg, Scott Hamilton (1/6/11) )
Pound drops on weak UK manufacturing PMI and mortgage approvals data RTT News (6/1/11)
Data
Mortgage approval numbers and other lending data are available from the Bank of England’s statistics publication, Monetary and Financial Statistics (Bankstats) (See Table A5.4.)
Questions
- How sensitive do you think mortgage approval numbers are likely to be both current and future economic conditions?
- Are there any other types of purchases which households make which you might expect to be especially sensitive to economic conditions?
- Is it just the weakness in the demand for housing which explains the current low levels of mortgage approvals? Explain your answer
- Do weak mortgage approval numbers mean that we should expect house prices to fall in the months ahead? Use demand and supply diagrams to help explain your answer.
While inflation is a concern in the UK and is making the Bank of England think twice about keeping interest rates at their all time low of 0.5%, inflation in Japan is being celebrated. The Japanese economy has been plagued by deflation for over a decade and for the past 2 years inflation has never been above 0%. However, in April the consumer price index (CPI) rose to 0.6% from the previous year, fuelled by petrol prices. Strangely it might be the Japanese earthquake and tsunami that helped this situation, as Japan was unable to generate sufficient electricity and hence had to import fuel from abroad.
A typical question from non-economists is always about why deflation and hence falling prices is such a bad thing. Surely, it’s great for consumers? For those shopping for bargains, perhaps it is helpful – after all, if prices fall, a consumer’s real income will be higher. However, the problem with falling prices is that people start to hold off buying. If you want to buy a car, but expect prices to be lower next month, then it’s a rational decision to delay your purchase until next month when prices are lower. However, next month, you still expect prices to be lower in the following month and so delay purchasing again. And so the process continues. When people expect prices to fall they put off their purchases, this reduces demand and so prices do indeed fall. There are also costs for businesses: as consumers delay buying, sales begin to fall. And businesses are also consumers, and so they start delaying their purchases of inputs.
While many central banks across the world have begun to tighten monetary policy, the Japanese central bank seems inclined to keep monetary policy loose and has even considered expanding the emergency lending programme. As Azusa Kato, an economist at BNP Paribas, said:
“The bank will probably add stimulus if it sees more signs of weakening demand”. “If you strip out energy and food costs, consumer prices are basically flat now.”
Despite this inflationary pressure, many believe that it is unlikely to continue and deflationary pressures may appear once again in the near future. The following articles consider the Japanese deflationary situation.
Articles
Japan ends 25 months of deflation Bloomberg, Mayumi Otsuma (27/5/11)
Japan consumer prices log first rise in 28 months Associated Press (27/5/11)
Japan beats deflation for the first time in two years BBC News (275/11)
Japan overcomes deflation for first time in two years Guardian, Julia Kollewe (27/5/11)
Japanese consumer price rise (including video) BBC News (27/5/11)
Japan April core CPI rises 0.6 pct yr/yr Reuters (26/5/11)
Japan experiences inflation for first time in over two years Telegraph (27/5/11)
Data
Japan Inflation Rate Trading Economics
Consumer Price Index (Japan) Japanese Statistics Bureau
Inflation Rate and Consumer Price Index (CPI) (for USA, Canada, Australia, UK and Japan) Rate Inflation
Statistical Annex, Preliminary Version OECD
Questions
- What are the main costs of deflation? Think about the wider effects on consumers, businesses and the government.
- What has caused the increase in inflation to 0.6% in Japan and why was there an expectation that inflation would re-appear?
- What explanation can be given for the belief that deflation will soon re-emerge?
- Using a demand and supply diagram, explain the process by which consumers delaying their consumption will lead to prices falling continuously.
- What is the best policy for the Japanese central bank to pursue in light of the new data?
The banking sector was at the heart of the credit crunch and it may also be at the heart of the recovery. Too much lending to those who could not repay has now translated into government encouragement and targets to stimulate further lending. Banks made a deal with the government (Project Merlin) to lend £76bn to small and medium sized companies (SMEs) in 2011, however, the data for the first quarter of 2011 shows that the top five UK banks lent only £16.8bn, some £2.2bn short of their quarterly target (about 12%). Despite this sum still being a significant figure, small companies have said that they are still finding it difficult to obtain credit from banks. A poll found 44% of companies that asked for a loan were turned down and many were discouraged from even applying as they had almost no chance.
Encouraging banks to lend and hence stimulating investment by businesses may prove crucial to the UK’s recovery. Vince Cable’s words with regard to lending emphasise its importance:
“We will monitor the banks’ performance extremely closely and if they fail to meet the commitments they have agreed we will examine options for further action.”
If small businesses can obtain credit, it will help them to develop and expand and this should have knock on effects on the rest of the economy. Jobs could be created, giving more people an income, which in turn should stimulate consumption, further investment and finally aggregate demand. It may not be the case that the UK’s recovery is entirely dependent on bank lending, but it could certainly play an important role, hence the government’s insistence for further lending. It may also act to create confidence in the economy. The following articles consider the bank’s role in providing credit to SMEs.
Articles
Bank lending falling short of promises by £25m a day Mail Online, Becky Barrow (24/5/11)
Cable tells banks to increase lending to small firms BBC News (23/5/11)
Bank lending targets: What the experts say Guardian, Alex Hawkes (23/5/11)
Major banks fail to meet their lending targets Independent, Sean Farrell (24/5/11)
Banks on course to miss small business lending target Guardian, Philip Inman (23/5/11)
Project Merlin needs to be less woolly and more wizard Guardian, Nils Pratley (23/5/11)
Bankers caused the crash and now they strangle recovery Guardian, Polly Toynbee (27/5/11)
Data
Trends in Lending Bank of England (see in particular, Lending to UK Businesses)
Questions
- Why have banks not met their lending targets for the first quarter of 2011?
- Why is project Merlin so potentially important to the recovery of the economy?
- Using an AD/AS diagram, illustrate the possible effects of further lending.
- Are there any possible adverse consequences of too much lending?
- Why might banks have little incentive to increase their lending to SMEs?
Each month the Bank of England releases figures on the amount of net lending to households. Net lending measures the additional amount of debt acquired by households in the month and so takes into account the amount of debt that households repay over the month. For some time now, the levels of net lending have been remarkably low. Over the first quarter of 2011, monthly net lending to households averaged £1.2 billion. This might sound like a lot of money and in many ways this is true. But, to put the weakness of this figure into perspective, the monthly average over the past ten years is £7 billion.
Household debt can be categorised as either secured debt or unsecured debt. The former is mortgage debt while the latter includes outstanding amounts due on credit and store cards, overdrafts and personal loans. Levels of net secured lending have averaged £1 billion per month over the first 3 months of 2011. This compares with a 10-year average of £5.8 billion per month. Levels of net unsecured lending have averaged £196 million per month over the first 3 months of 2011. This compares with a 10-year average of £1.2 billion per month. In 12 of the months between December 2008 and January 2011 net unsecured lending was actually negative. This means that the value of repayments was greater than new unsecured lending. Once bad debts are taken into account we observe from the autumn of 2008 almost persistent monthly falls in the stock of unsecured debt.
Weak levels of net lending reflect two significant factors. First, on the supply-side, lending levels remain constrained and credit criteria tight. Second, on the demand-side, households remain anxious during these incredibly uncertain times and would appear to have a very limited appetite for taking on additional credit.
Finally, a note on the stock of debt that we households collectively hold. The stock of household debt at the end of March 2011 was £1.45 trillion. This is £7.2 billion or 0.5% lower than in March 2010. The stock of secured debt has risen over this period by only £2.6 billion or 0.2%, while unsecured debt – also known as consumer credit – has fallen £9.9 billion or 4.5%. These figures help to reinforce the message that British households continue to consolidate their financial positions.
Articles
Latest data shows UK economy still sluggish Euronews (4/5/11)
Bank reveals weal lending on mortgages City A.M., Julian Harris (5/5/11)
Mortgage lending plummets by 60% Belfast Telegraph (5/5/11)
Mortgage lending down as borrowers repay debt thisismoney.co.uk (4/5/11)
Average UK household owes more than £50,000 in debts Mirror, Tricia Phillips (6/5/11)
Data
Lending data are available from the Bank of England’s statistics publication, Monetary and Financial Statistics (Bankstats) (See Tables A5.2-A5.7).
Questions
- What is the difference between gross lending and net lending?
- What do you understand by a negative net lending number?
- What is the difference between net secured lending and net unsecured lending?
- What factors do you think help to explain the recent weakness in net lending?
- How would you expect the net lending figures in a year’s time to compare with those now?
- As of 31 March 2011, UK households had accumulated a stock of debt of £1.45 trillion. In what ways could we put this figure into context? Should we as economists be concerned?
- It is said that households are consolidating their financial position. What do you understand by this term and what factors have driven this consolidation?
- What are the implications for the wider economy of households consolidating their financial position?
The Greek economy is suffering. In April 2010, a €45 billion bailout package was agreed between Greece and the IMF and the EU. This was increased to €110 billion in May 2011. (The bailout loans expire in 2013.) In return for the loans, Greece agreed to tough austerity measures, involving tax increases, clamping down on tax evasion and government expenditure cuts. These measures have succeeded in cutting the deficit by 5 percentage points, but it still stood at 10.5% of GDP in 2010. Public-sector debt rose from 127% of GDP in 2009 to 143% in 2010. The market cost of borrowing on two-year government bonds currently stands at 23% per annum – a sign of a serious lack of confidence by investors in Greece’s ability to repay the loans.
The austerity measures have brought great hardship. Unemployment has soared. In February 2011, it reached 15.9%; in February last year it was 12.1%. According to the IMF’s World Economic Outlook (Table A2), Greek real GDP fell by 2.0% in 2009, by 4.5% in 2010 and is forecast to fall by 3.0% in 2011. But with GDP falling, this brings automatic fiscal stabilisers into play: lower incomes mean lower income tax revenues; lower expenditure means lower VAT revenue; higher unemployment means that more people claim unemployment-related benefits. This all makes it harder to meet the deficit reduction targets through discretionary tax rises and government expenditure cuts and makes it even more important to cut down on tax evasion. But, of course, the more taxes rise and the more government expenditure is cut, the more this suppresses aggregate demand. The austerity measures have thus worsened the recession.
On May 9, the ratings agency Standard & Poor’s downgraded Greece’s rating to B (15 points below the top rating of AAA and 6 points into ‘junk’ territory). It now has the lowest rating in Europe along with Belarus.
Worries have been growing that Greece might be forced to default on some its debt, or choose to do so. This would probably mean an extension of repayment periods. In other words, bondholders would be paid back in full but at a later date. This has been referred to as ‘debt re-profiling’. This could cause a renewed loss of confidence, not only in the Greek economy, but also in banks that are major lenders to Greece and which would be exposed in the case of default or restructuring.
The IMF and the ECB have been quick to stress that Greece can continue to manage its debt and that, if necessary, another loan might be negotiated. Anticipations are that Greece could indeed ask for a further bailout. But is this the answer? Or would it be better if Greece sought a restructuring of its debt? The following webcasts and podcasts consider the issue.
Webcasts and podcasts
Greece may need second financial bail-out BBC News, Stephanie Flanders (11/5/11)
Greece needs revised bail-out Financial Times Global Economy Webcasts, Luke Templeman and Vincent Boland (9/5/11)
Why Greece must stick to the plan Financial Times Global Economy Webcasts, Ralph Atkins, Frankfurt Bureau Chief, talks to Jurgen Stark (11/5/11)
Will Greece need more money? BBC News, Matina Stevis (9/5/11)
Economists debate Greek crisis BBC News, Thomas Mayer and David McWilliam (9/5/11)
Greece at ‘a very difficult stage’ BBC Today Programme, Stephanie Flanders and Vassilis Xenakis (11/5/11)
The Business podcast: PPI scandal and Greece’s debt crisis Guardian Podcast, Aditya Chakrabortty (11/5/11) (listen to last part of podcast, from 19:20)
Greece: Eurozone ministers discuss terms of second bailout BBC News, Nigel Cassidy (16/5/11)
Greece dominates eurozone talks in Brussels BBC News, Matthew Price (17/5/11)
Articles
S&P moves to cut Greek credit rating Financial Times, Richard Milne, Tracy Alloway and Ralph Atkins (9/5/11)
One Year After the Bailout, Greece is Still Hurting Time Magazine, Joanna Kakissis (12/5/11)
What price a Greek haircut? BBC News blogs: Peston’s Picks, Robert Peston (10/5/11)
What is debt ‘reprofiling’? BBC News, Laurence Knight (17/5/11)
Reprofiling: Greece’s restructuring-lite Channel 4 News, Faisal Islam (17/5/11)
Questions
- What are the arguments for and against tough austerity measures for Greece and other eurozone countries with high deficits, such as Portugal and Ireland?
- Should Greece seek a restructuring of its debts?
- What is a ‘haircut’ and is this a suitable form of restructuring?
- What are the arguments for and against a default, or partical default, by the Greek government on its debt?
- Is it in the intesests of European banks to offer a further bailout to Greece?
- What should be the role of the IMF in the current situation in Greece?