This is interesting because it has come during an improving economic backdrop for housing. The fall in oil prices has increased expectations for real incomes, and lower bond yields mean that fixed rate mortgage costs have fallen. Both should have raised house prices. So why haven’t they?
One reason is that prices have been so high as to depress demand. The Nationwide estimates that the average UK house now costs five times average full-time earnings, the highest ratio since their records began in 1983. This matters because this ratio has been a good predictor of house price changes, especially over longer periods. Since 1983, the correlation between the ratio and subsequent annual changes in inflation-adjusted house prices has been minus 0.27. For three-year price changes, the correlation has been minus 0.47.
The tendency for high prices to squeeze out buyers is especially acute in London. The RICS recently reported that surveyors there are reporting falling prices, and expect to see further falls.
This, though, is not the only threat to house prices. Another danger is that of increased supply. The three main parties are all promising to build more houses after the general election. And doing so makes decent economic sense.
A third threat is that of sustained low inflation. This makes home-owning less attractive, partly because low inflation means that mortgage debt isn’t eroded by rising prices and partly because when inflation is low there’s less need to own a home to insure ourselves against the risk of rising rents.
On top of this, there are a couple of genuine uncertainties. One is that we can’t be sure what long-term average house price growth actually is. Nationwide’s figures tell us that, since 1983, prices have risen by an average of 2.7 per cent per year after inflation. But during this time, the standard deviation of price changes has been 8.8 percentage points, which implies that the standard error around that 2.7 per cent number is 1.6 percentage points. This implies that there’s around a one-in-seven chance that the true increase in house prices has been only one per cent per year in real terms and that homeowners have simply had above-average luck over the last 32 years.
A second uncertainty is a global one. Researchers at Oxford University’s Said Business have shown that house prices in London depend in part upon global political risk; political uncertainty overseas increases wealthy foreigners’ desire to buy London homes as a safe haven. And these high prices tend to ripple out across the south east. But we don’t know whether this political uncertainty will increase or not, or how much it will trigger buying in future.
None of this is to say that housing is necessarily a bad long-term investment. The very fact that it is risky - and in particular tends to do badly in recessions - means that it should offer reasonable long-term returns. What it does mean, though, is that those younger people who have been priced out of the market perhaps shouldn’t complain too much: maybe, just maybe, housing is about to become a little more affordable in the next few years.
