House prices are always a good signal for the strength or direction of the economy. While there will always be certain areas that are more sought after than others and such differences will be reflected in relative house prices, the regional divide that we currently see in the UK is quite astonishing.
Prior to the financial crisis, house prices had been rising across the county, but in the year following the financial crisis, they declined by 19 per cent. It was only in 2013, when prices began to increase and, perhaps more importantly, when the variation in regional house prices began to increase significantly. In mid-2014, the UK’s annual house price inflation rate was 11.7 per cent, but the rates in London and the South East were 19.1 and 12.2 per cent, respectively. Elsewhere in the UK, the average rate was 7.9 per cent.
These regional differences have continued and figures show that the current differential between the cheapest and most expensive regional average house price is now over £350,000. In particular, data from the Land Registry shows that the average house price in London is £458,283, while in the North East, it is only £97,974.
Those people who own a house in London have benefited from such high house prices, in many cases finding that their equity in their house has grown significantly. Furthermore, any home-owners selling their house in London and moving elsewhere are benefiting from lower house prices outside London.
However, most first-time buyers looking for a house in London are being competed out of the market, finding themselves unable to gain a mortgage and deposit for the amount that they require. The opposite is, of course, happening in other parts of the country. First-time buyers are more able to enter the property market, but home-owners are finding that they have much less equity in their house.
This has also caused other problems, in particular in the labour market. Workers who are moving to jobs in London are finding the house price differentials problematic. Although wage rates are often higher in London than in other parts of the country, the house price differential is significantly bigger. This means that if someone is offered a job in London, they may find it impossible to find a house of similar size in London compared to where they had been. After all, an average family home in the North East can be purchased for under £100,000, whereas an average family home in London will cost almost £500,000.
The housing market is problematic because of particular characteristics.
Supply tends to be relatively fixed, as it can take a long time to build new houses and hence to boost supply. Furthermore, the UK has a relatively dense population, with limited available land, and so planning restrictions have to be kept quite tight, which is another reason why supply can be difficult to increase.
On the demand-side, we are seeing a change in demographics, with more single-person households; people living longer; second home purchases and many other factors. 
These things tend to push up demand and, with restricted supply, house prices rise. Furthermore, with certain areas being particularly sought after, perhaps due to greater job availability, ease of commuting, schools, etc., house price differentials can be significant.
The Conservatives, together with the other main parties, have promised to build more houses to help ease the problem, but this really is a long-run solution.
The Bank of England will undoubtedly have a role to play in the future of the housing market. The affordability of mortgages is very dependent on interest rate changes by the Bank’s Monetary Policy Committee.
Although house prices in London have recently fallen a little, the housing cost gap between living in London and other areas is unlikely to close by much as long as people continue to want to live in the capital. The following articles consider the housing market and its regional variations.
Articles
London’s homeowners have made £144,000 on average since 2009 International Business Times, Sean Martin (20/2/15)
Wide gap in regional house prices, Land Registry figures show BBC News, Kevin Peachey (27/2/15)
Mapped: 10 years of Britain’s house price boom (and bust) The Telegraph, Anna White (27/2/15)
Oxford houses less affordable than London Financial Times, Kate Allen (26/2/15)
January’s UK house prices show unexpected climb The Guardian (5/2/15)
House prices since 2008: best and worst regions The Telegraph, Tom Brooks-Pollock (22/8/14)
House prices hit new record high of £274k with six regions now past pre-crisis peak – but the North lags behind This is Money, Lee Boyce (14/10/14)
Data
House price indices: Data Tables ONS
Links to sites with data on UK house prices Economic Data freely available online, The Economics Network
Regional House Prices Q4 2014 Lloyds Banking Group
Questions
- What are the main factors that determine the demand for housing? In each case, explain what change would shift the demand curve for housing to the right or the left.
- Which factors determine supply? Which way will they shift the supply curve?
- Put the demand and supply for housing together and use that to explain the recent trends we have seen in house prices.
- Use your answers to question 1 – 3 to explain why house prices in London are so much higher than those in the North East of England.
- Why are interest rates such an important factor in the housing market?
- Explain the link between house prices and the labour market.
- Do you think government policy should focus on reducing regional variations in house prices? What types of policies could be used?
The housing market was at the heart of the 2014 Autumn Statement. Perhaps most eyecatching were the reforms to stamp duty. Stamp Duty is a tax on house purchases. Overnight we have seen the introduction of a graduated system of tax, along the lines of the income tax system – similar to the model to be adopted in Scotland from next April under the Land and Buildings Transactions Tax. For the rest of the UK, there will be five tax bands, including a zero rate band for property values up to £125,000. The total tax liability will be dependent upon the proportion of the value of the property that falls in each taxable band.
But, alongside the Stamp Duty announcement, the Autumn Statement was noteworthy for its references to new build. New build is clearly central to UK housing policy.
The Autumn Statement reaffirmed the government’s wish to see house building play a central role in easing pressures on the housing market. Over the past 40 years or more UK house prices have been characterised by considerable volatility and by a significant real increase. This can be seen clearly in the chart. Actual (nominal) house prices across the UK have grown an average rate of 10 per cent per year. Even if we strip out the effect of economy-wide inflation, we are still left with an increase of around 3.5 per cent per year. (Click here to download a PowerPoint of the chart).
The economics point to supply-side problems that mean demand pressures feed directly into house prices. The commitment to build has now seen the announcement of a new garden city near Bicester in Oxfordshire. This is set to provide 13,000 or more new homes. The government has also pledged £100 million to the Ebbsfleet Garden City project to provide the infrastructure and land remediation necessary to bring in more private-sector developers to help deliver an expected 15,000 new homes.
An interesting development in housing policy is the willingness of government to consider being more actively involved itself in house building. The development of former barracks at Northstowe in Cambridgeshire will be spearheaded by the Homes and Communities Agency which will lead on the planning and construction of up to 10,000 new homes. This signals, at least on paper, that government is prepared to think more broadly about the way in which it works with the private sector in helping to deliver new homes.
The desire to facilitate new build appears to make some economic sense. But, the politics of delivering on new homes is considerably more difficult since the prospect of new developments naturally raises considerable local concerns. Furthermore, it does not deal with fundamental questions around the existing housing market stock. In particular, how we can further increase investment in our existing housing stock, especially given the significant land constraints that face a country like the UK. As yet, the debate around how to improve what we already have has not really taken place.
Autumn Statement
Autumn Statement: documents Gov.UK
Articles
Autumn Statement: Government will build tens of thousands of new homes Independent, Nigel Morris (2/12/14)
Government could build and sell new homes on public sector land Guardian, Patrick Wintour (2/12/14)
Bicester chosen as new garden city with 13,000 homes BBC News, (2/12/14)
Nick Clegg reveals coalition plan for new garden city in Oxfordshire Guardian, (2/12/14)
State to build new homes for first time in generation Telegraph, Steven Swinford (2/12/14)
Data
House Price Indices: Data Tables Office for National Statistics
Questions
- Explain the distinction between real and nominal house prices.
- Would you expect real house price inflation to always be less than nominal house price inflation?
- What factors are likely to affect housing demand?
- What factors are likely to affect housing supply?
- Show using a demand-supply diagram the impact of rising incomes on the demand for a particular housing market characterised by a price inelastic supply.
- Would we expect all housing markets to exhibit similar characteristics of housing demand and supply?
- What is the economic rationale for the government’s new build policy?
- What other measures could be introduced to try and alleviate the long-term pressure on real house prices?
- How might we go about assessing the affordability of housing?
- Would a policy which reduced for the stamp duty payment of most buyers help to curb inflationary pressures in the housing market? Explain your answer using a demand-supply diagram.
The housing market and what to do about bubbles, second homes and first time buyers is likely to be one of many battle grounds at the next election. For many years, the idea of a mansion tax has been debated and the Shadow Chancellor, Ed Balls, has outlined plans for a mansion tax under a Labour government.
The policy would see houses valued at between £2 and £3 million pay £250 a month as a mansion tax. Those owning a home worth tens of millions and those with second homes would pay more under the mansion tax, which would be based on a progressive system. Concerns have been raised about the impact of this tax on home-owners in areas like London, where average house prices are considerably higher than the UK average. Ed Balls has sought to reassure homeowners that payment of the mansion tax could be deferred if earnings do not reach the £42,000 threshold. However, critics have suggested that this policy will only make things worse for middle income households who will not be able to defer such a payment if their income is £43,000. Labour’s MP for Greenwich, Nick Raynsford said, ‘What it does is create a cliff edge. It will still hit people who are asset rich but cash poor.” Writing in the Evening Standard, Ed Balls said:
“Long-standing residents who now find themselves living in high-value homes but do not have an income high enough to pay the higher or top rate of income tax — in other words earn less than £42,000 a year — will be guaranteed the right to defer the charge until the property changes hands.
So a tax on the highest value properties will be done fairly and carefully to help fund our NHS for the future.
Ordinary Londoners should be protected and wealthy foreign investors must finally make a proper tax contribution in this country.”
Although similar in its objective to the Liberal Democrat’s mansion tax, the amount of the tax as a percentage of the value of the home under Labour is significantly lower. It is likely to be between 0.1% and 0.15% of the home’s valued, compared to the 1% levy proposed by the Liberal Democrats.
One debate now surrounds the amount that this tax is expected to raise, especially given the revenue has been ear-marked to finance the NHS. The number of homes whose value is estimated to fall between £2m and £3m varies considerably and hence so would the revenues raised from such a tax. However, the income generated by even the most generous estimates will not come close to raising the ear-marked figure of £1.2bn. As such, there are suggestions that the tax levied on houses worth more than £3m; on foreign owners of residences in the UK and second homes will need to be significant to make up the short fall. A spokesperson for the Conservatives said:
“Serious questions have now been raised about how much revenue Labour would be able to raise from the tax …This is a further unravelling of the policy, which faced fierce criticism after it was revealed that no money would be raised until halfway through the next parliament, and the proposals for mass valuations of family homes was widely slammed as unworkable.”
The UK residential research director of Savills estate agency, Lucian Cook, added:
“Given Labour’s stated ambition to raise £1.2bn, that would leave at least £1.08bn to be raised from the remaining 57,000 properties, possibly more to account for tax leakage elsewhere in the system.”
The impact of the mansion tax will depend on exactly how it is imposed and the thresholds, together with how the threshold changes with the housing market. In the UK, we have seen some houses increase in value by huge amounts in just a few months and with a mansion tax, any such increase in price could move more home-owners into the new progressive tax system. Some argue that it is a tax on Londoners. The following articles consider the proposed policy by Labour.
Ed Balls seeks to reassure London home owners over mansion tax plans The Guardian, Patrick Wintour (20/10/14)
Ed Balls: Mansion tax would start at £250 a month BBC News (20/10/14)
‘Mansion tax’ will mean bill of £250 a month, says Ed Balls Financial Times, Emily Cadman, Kate Allen, Vanessa Houlder and George Parker (20/10/14)
Mansion tax can be deferred in you earn less than £42,000, Ed Balls insists as he reveals details of levy on £2million homes Mail Online, Matt Chorley (20/10/14)
Ed Balls: Mansion tax will cost homeowners £250 a month London Evening Standard (20/10/14)
Middle-class families hit by Labour’s mansion tax The Telegraph, Steven Swinford (20/10/14)
Balls says mansion-tax threshold to rise with home values Bloomberg, Svenja O’Donnell (20/10/14)
Questions
- How does a progressive tax system work?/li>
- Why are some critics arguing that this mansion tax would just be a tax on Londoners?
- What objective is the £42,000 income threshold trying to achieve? Do you think that critics are correct in their assertion that it penalises middle income households?
- Fiscal drag is mentioned in the BBC News article as a potential problem with the mansion tax proposed by Labour and that houses may move into the taxable threshold. What is fiscal drag and why is it a potential concern?
- How might such a policy affect the incentives of foreigners to invest in the UK housing market? Would this be a good or a bad thing and for who?
- The revenues generated from houses between £2 and £3m will not be sufficient to generate £1.2bn. What are the implications for how progressive the mansion tax would need to be and how this might affect homeowners?
The British love to talk about house prices. Stories about the latest patterns in prices regularly adorn the front pages of newspapers. We take this opportunity to update an earlier blog looking not only at house prices in the UK, but in other countries too (see the (not so) cool British housing market). This follows the latest data release from the ONS which shows the UK’s annual house price inflation rate ticking up from 10.2 per cent in June to 11.7 per cent in July and which contrasts markedly with the annual rate in July 2013 of 3.3 per cent.
The July annual house price inflation figure of 11.7 per cent for the UK is heavily influenced by the rates in London and the South East. In London house price inflation is running at 19.1 per cent while in the South East it is 12.2 per cent. Across the rest of the UK the average rate is 7.9 per cent, though this has to be seen in the context of the July 2013 rate of 0.8 per cent.
Chart 1 shows house price inflation rates across the home nations since the financial crisis of the late 2000s. It shows a rebound in house price inflation over the second half of 2013 and across 2014. In July 2014 house price inflation was running at 12.0 per cent in England, 7.6 per cent in Scotland, 7.4 per cent in Wales and 4.5 per cent in Northern Ireland. If we use the East Midlands as a more accurate barometer of England, annual house price inflation in July was 7.6 per cent – the same as across Scotland. (Click here for a PowerPoint of the chart.)
Consider a more historical perspective. The average annual rate of growth since 1970 is 9.7 per cent in the UK, 9.7 per cent in England (9.6 per cent in the East Midlands), 9.6 per cent in Wales, 8.8 per cent in Scotland and 8.7 per cent in Northern Ireland. Therefore, house prices in the home nations have typically grown by 9 to 10 per cent per annum. But, as recent experience shows, this has been accompanied by considerable volatility. An interest question is the extent to which these two characteristics of British house prices are unique to Britain. To address this question, let’s go international.
Chart 2 shows annual house price inflation rates for the UK and six other countries since 1996. Interestingly, it shows that house price volatility is a common feature of housing markets. It is not a uniquely British thing. It too shows shows something of a recovery in global house prices. However, the rebound in the UK and the USA does appear particularly strong compared with core eurozone economies, like the Netherlands and France, where the recovery is considerably more subdued. (Click here for a PowerPoint of the chart.)
The chart captures very nicely the effect of the financial crisis and subsequent economic downturn on global house prices. Ireland saw annual rates of house price deflation exceed 24 per cent in 2009 compared with rates of deflation of 12 per cent in the UK. Denmark too suffered significant house price deflation with prices falling at an annual rate of 15 per cent in 2009.
House price volatility appears to be an inherent characteristic of housing markets worldwide. Consider now the extent to which house prices rise over the longer term. In doing so, we analyse real house price growth after having stripped out the effect of consumer price inflation. Real house price growth measures the growth of house prices relative to consumer prices.
Chart 3 shows real house prices since 1995 Q1. (Click here for a PowerPoint of the chart.) It shows that up to 2014 Q2, real house prices in the UK have risen by a factor of 2.4 This is a little less than in Sweden where prices are 2.6 times higher. Nonetheless, the increase in real house prices in the UK and Sweden is significantly higher than in the other countries in the sample. In particular, in the USA real house prices in 2014 Q2 were only 1.2 times higher than in 1995 Q1. Therefore, in America actual house prices, when viewed over the past 19 years or so, have grown only a little more quickly than consumer prices.
The latest data on house prices suggest that house price volatility is not unique to the UK. The house price roller coaster is an international phenomenon. However, the rate of growth in UK house prices over the longer term, relative to consumer prices, is markedly quicker than in many other countries. It is this which helps to explain the amount of attention paid to the UK housing market. The ride continues.
Data
House Price Indices: Data Tables Office for National Statistics
Articles
Property prices in all regions of the UK grow at the fastest annual pace seen in seven years Independent, Gideon Spanier (16/9/14)
UK House Prices Have Not Soared This Fast In Seven Years The Huffington Post UK, Asa Bennett (16/9/14)
UK house prices hit new record as London average breaks £500,000 Guardian, Phillip Inman (6/12/14)
Six regions hit new house price peak, says ONS BBC News, (16/9/14)
Welsh house prices nearing pre-crisis peak BBC News, (16/9/14)
Questions
- What is meant by the annual rate of house price inflation? What about the annual rate of house price deflation?
- What factors are likely to affect housing demand?
- What factors are likely to affect housing supply?
- Explain the difference between nominal and real house prices. What does a real increase in house prices mean?
- How might we explain the recent differences between house price inflation rates in London and the South East relative to the rest of the UK?
- What might explain the very different long-term growth rates in real house prices in the USA and the UK?
- Why were house prices so affected by the financial crisis?
- What factors help explain the volatility in house prices?
- How might we go about measuring the affordability of housing?
- In what ways might house price patterns impact on the macroeconomy?
House prices have been rising strongly in London. According to the Halifax House Price index, house prices in London in the first quarter of 2014 were 15.5% higher than a year ago. This compares with 8.7% for the UK as a whole, 1.3% for the North of England and –1.5% for Scotland. CPI inflation was just 1.6% for the same 12-month period.
The London housing market has been stoked by rising incomes in the capital, by speculation that house prices will rise further and by easy access to mortgages, fuelled by the government’s Help to Buy scheme, which allows people to put down a deposit of as little as 5%. House prices in London in the first quarter of 2014 were 5.3 times the average income of new mortgage holders, up from 3.5 times in the last quarter of 2007, just before the financial crisis.
Concerns have been growing about increasing levels of indebtedness, which could leave people in severe financial difficulties if interest rates were to rise significantly. There are also concerns that an increasing proportion of people are being priced out of the housing market and are being forced to remain in the rental sector, where rents are also rising strongly.
But how can the housing market in London be dampened without dampening the housing market in other parts of the country where prices are barely rising, and without putting a break on the still relatively fragile recovery in the economy generally?
The Governor of the Bank of England has just announced two new measures specific to the housing market and which would apply particularly in London.
The first is to require banks to impose stricter affordability tests to new borrowers. Customers should be able demonstrate their ability to continue making their mortgage payments if interest rates were 3 percentage points higher than now.
The second is that mortgage lenders should restrict their lending to 4½ times people’s income for at least 85% of their lending.
Critics are claiming that these measures are likely to be insufficient. Indeed, Vince Cable, the Business Secretary, has argued for a limit of 3½ times people’s income. Also banks are already typically applying a ‘stress test’ that requires people to be able to afford mortgage payments if interest rates rose to 7% (not dissimilar to the Bank of England’s new affordability test).
The videos and articles look at the measures and consider their adequacy in dealing with what is becoming for many living in London a serious problem of being able to afford a place to live. They also look at other measures that could have been taken.
Webcasts and Podcasts
The Bank of England announces plans for a new affordability test BBC News (26/6/14)
Bank of England moves to avert housing boom BBC News, Simon Jack (26/6/14)
Bank of England to act on house prices in south-east BBC News, Robert Peston (25/6/14)
Bank of England measures ‘insure against housing boom’ BBC News, Robert Peston (26/6/14)
Carney: There is a ‘new normal’ for interest rates BBC Today Programme, Mark Carney (27/6/14)
Articles
Bank of England imposes first limits on size of UK mortgages Reuters, Ana Nicolaci da Costa and Huw Jones (26/6/14)
Stability Report – Mark Carney caps mortgages to cool housing market: as it happened June 26, 2014 The Telegraph, Martin Strydom (26/6/14)
Bank of England cracks down on mortgages The Telegraph, Szu Ping Chan (26/6/14)
Mortgage cap ‘insures against housing boom’ BBC News (26/6/14)
Viewpoints: Is the UK housing market broken? BBC News (26/6/14)
How can UK regulators cool house prices? Reuters (25/6/14)
Bank will not act on house prices yet, says Carney The Guardian, Jill Treanor and Larry Elliott (26/6/14)
Mark Carney’s housing pill needs time to let economy digest it The Guardian, Larry Elliott (26/6/14)
Bank Of England Admits Plans To Cool Housing Market Will Have ‘Minimal’ Impact Huffington Post, Asa Bennett (26/6/14)
Carney Surprises Are Confounding Markets as U.K. Central Bank Manages Guidance Bloomberg, Scott Hamilton and Emma Charlton (26/6/14)
House prices: stop meddling, Mark Carney, and bite the bullet on interest rates The Telegraph, Jeremy Warner (27/6/14)
Mark Carney’s Central Bank Mission Creep Bloomberg, Mark Gilbert (26/6/14)
Consultation paper
Implementing the Financial Policy Committee’s Recommendation on loan to income ratios in mortgage lending Bank of England (26/6/14)
Bank of England consults on implementation of loan-to-income ratio limit for mortgage lending Bank of England News Release (26/6/14)
Data
Links to sites with data on UK house prices Economic Data freely available online, The Economics Network
Questions
- Identify the main factors on the demand and supply sides that could cause a rise in the price of houses. How does the price elasticity of demand and supply affect the magnitude of the rise?
- What other measures could have been taken by the Bank of England? What effect would they have had on the economy generally?
- What suggests that the Bank of England is not worried about the current situation but rather is taking the measures as insurance against greater-than-anticipated house price inflation in the future?
- Why are UK households currently in a ‘vulnerable position’?
- What factors are likely to determine the future trend of house prices in London?
- Is house price inflation in London likely to stay significantly above that in other parts of the UK, or is the difference likely to narrow or even disappear?
- Should the Bank of England be given the benefit of the doubt in being rather cautious in its approach to dampening the London housing market?
