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The house price curse

The house price curse

Housing is becoming even more unaffordable. Figures from Markit next week are likely to show that house prices have risen by around 5.5 per cent in the past 12 months - twice as much as wages. This threatens to further price young people out of home ownership. The recent Redfern Review deplored this because home ownership "brings additional home stability, security, financial strength and the ability to plan ahead, in a way that renting cannot readily achieve".

However, it's possible that high and rising house prices aren't just a social evil. They might also do genuine macroeconomic damage.

One reason for this is that they can reduce productivity growth. There are several mechanisms here:

■ High prices make it difficult or impossible for people to move near to where there are good jobs. This increases commuting, which creates congestion, delays and misery, thus making people less productive when they finally get to work. Not that they always get there: commuting also increases absenteeism.

■ The higher are house prices, the more people are likely to fight to preserve those prices. This can intensify 'nimbyism'. The upshot can be that useful infrastructure or business projects get blocked or delayed.

■ High prices divert resources to sectors with low productivity growth which, as a matter of simple maths, can depress aggregate productivity. Nicola Borri and Pietro Reichlin argue that, in stimulating construction at the expense of manufacturing, high house prices shift economic activity to a sector with low productivity growth. You might think this isn't an issue in the UK, given the low level of housebuilding. But there's an analogous process. If young people are spending two-fifths of their income on rent, they've less to spend on other goods and services, and this depresses demand for potentially more innovative products.

Warwick University's Andrew Oswald has argued that "a high rate of home-ownership slowly decimates the labour market". I suspect high house prices have a similar effect.

But their damage doesn't stop here. Richard Disney and John Gathergood show that big rises in house prices reduce labour supply, as older workers retire on the proceeds of home ownership. This deprives the economy of experienced workers, and can add to wage inflation and a squeeze on profit margins.

I fear, though, that high and rising house prices do damage in a cultural way that's perhaps significant even though it's hard to measure. The belief that you can make easy money from rising prices has diverted thousands of people into 'property development'. More stable prices would perhaps cause them to direct their energies into other forms of innovation and entrepreneurship, some of which might do more to raise productivity.

All this said, it's possible that high house prices do have some mitigating benefits. They provide some homeowners with collateral with which to start a business. And their adverse effect on the labour supply of older people might be offset by younger homeowners having to work long hours to pay the mortgage.

Nevertheless, I fear that, on balance, high and rising house prices are indeed a bad thing. Philip Hammond was probably right to complain in his Autumn Statement about "the effect of unaffordable housing on our nation's productivity".

Sadly, however, his proposed remedies might not be sufficient. As the Redfern Review pointed out, short-term increases in supply have little effect on prices. Simple maths tells us this: even if we were to double housebuilding for one year, we'd add only 0.5 per cent to the nation's housing stock.

Of course, house prices can fall for other reasons, such as a recession or financial crisis. The best way of depressing them, however, will take many years. Our house price problem won't, therefore, go away.

 

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By Chris Dillow,
01 December 2016

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Chris Dillow

Chris spent eight years as an economist with one of Japan's largest banks. Here, he provides insightful commentary on the latest economic news and data, along with thought-provoking articles about investor behaviour.

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