Since You Asked

Don’t bet the house on price rises persisting

Supply constraints are not the only cause of the UK’s property inflation, writes Tim Harford

‘George Osborne has admitted that UK housing supply will struggle to keep up with demand for the next decade . . . ’, Financial Times, February 5

I saw the headlines: George Osborne predicts that house prices will keep rising for the next 10 years.

That’s the erroneous conclusion that seems to have emerged but it’s not what Mr Osborne said when giving evidence to the House of Lords economic affairs select committee. His only gesture towards a house-price forecast was to mention the view of the Office for Budget Responsibility. The OBR does forecast price rises but not with nearly the same gusto of private sector forecasters – often estate agents. So it’s strange to see the chancellor of the exchequer being linked with a bullish view on the price of houses.

But Mr Osborne predicts a continued shortfall of supply – and that can only mean that prices go up.

That rather assumes that the key reason for high house prices is a shortage of new homes. It’s far from clear that this is true.

Are you repealing the laws of supply and demand? Didn’t a Financial Times poll of economists say that the best response to high housing prices was to build more houses? What sort of economist are you anyway?

I quite agree that the UK needs more housebuilding – it would help provide jobs and cheaper, more environmentally friendly and more comfortable homes. And it’s true that all other things being equal, house prices will be lower in a scenario where lots of homes are built than in one where very few are built. But none of that means the chief cause of high house prices now is constrained supply – nor that continued supply constraints mean that the high prices will continue too.

I’m still confused.

OK. What is the single most reliable indicator that housing is scarce?

High house prices.

I disagree. It’s high rents. Rents can change more quickly, are affected less by the state of the UK mortgage market and don’t have a speculative component. People sometimes buy houses simply in the hope of reselling at a profit; not many people rent a house in the hope of a profitable sublet.

But aren’t rents high too?

Yes. But not nearly as high as house prices are, which is the point. A government review of the rental market in 2010 found that rents had increased by 40 per cent in the decade running up to the 2008 recession, almost exactly tracking the increase in what people earned. House prices, in contrast, had increased by more than 100 per cent.

A report last spring from the OECD also used rents as a benchmark to assess UK house prices and concluded that they were overvalued. Buy-to-let investment looks like an expensive proposition in many parts of the country unless rents rise sharply.

So you think it’s a bubble rather than supply and demand.

Scarce supply and robust demand is pushing rents up in many places, and that’s a good reason for public policy to encourage more housebuilding. But the additional house-price margin over and above what rents explain may indeed indicate a bubble.

Are there other explanations?

Certainly. It’s possible that investors have taken a far-sighted view of the prospects for future rents, and are buying houses in expectation that rents will leap in due course. Time will tell.

Or low interest rates?

I was coming to that. Real interest rates are very low and the government’s help-to-buy policies are also making it easier to buy houses. And houses are expensive because other assets are expensive, too. But real interest rates won’t stay low for ever.

Returning to the subject of building houses, has Mr Osborne done enough?

He has thrown money at banks and housebuyers and tried to liberalise the planning system but he admitted himself that the problem hasn’t been solved. There is colossal economic value to granting more planning permission – it can increase the value of agricultural land roughly a hundred times over.

So why don’t local authorities grant more permission?

Because they have little to gain but angry voters. If local authorities could reap some of the value of the planning permission they granted, they could use the cash to compensate existing residents and to provide services. That could be a vote-winner. But they can’t – so it isn’t.

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