Should the BoE step in and deflate the housing bubble?

By Jo Gilbey
Find me on: LinkedIn 27-Jun-2014 12:38:00

small_4205651268Financial analysts are largely unified in the belief that a vast array of factors combined to create the recent financial crash - the largest since the infamous 1930s Great Depression. Whilst a single reason or event can't be pinned down, a perfect storm of risky 'casino banking', fraudulent practices, property price bubbles and competitive sub-prime lending all combined (with a few others as well) to bring about a crash - the effects of which are still being felt many years later.

Given that property - in terms of both prices and lending - is widely seen as having made a large contribution to the crash, it would be wise for all concerned to approach the current, precarious recovery with a good measure of caution - after all, finances are still at risk of slipping back (the 'double' or even 'triple-dip recession').

Of course, that isn't what has happened - at least in Britain - over the last few years. Instead there's been something of a property rush, with those previously holed up in the letting trap now increasingly able to afford a property of their own. Much of this can be attributed to increased mortgage lending and the government's flagship Help to Buy scheme. The result is that lending totals and property values have increased at such a rate that they've already begun reaching levels close to those witnessed just before the crash took hold.

So what does this mean for buyers and for Britain's finances as a whole? Is this growth a good way of getting the economy moving or is it instead creating an unsustainable property bubble that will only serve to undo all of the hardships endured from cuts and austerity measures? If so, should the Bank of England (BoE) step in to manually cool the housing market and put Britain's recovery onto more stable footing?

Is there even a bubble?

The first issue to address is whether or not there actually is a bubble forming within the housing market. As it stands, representatives from across the political spectrum cannot agree on whether or not this is actually the case - a belief that's perhaps unsurprisingly got as much to do with whether or not they're in power, as it does what they actually believe.

Supporters of the Help to Buy scheme claim that calling the market's recent growth a 'bubble' is to dismiss the positive impacts it has had in enabling buyers to take their first steps on the property ladder. Furthermore, they argue, it undermines the strengthening construction sector, which has been buoyed to such a level that some developers are even having to turn down projects, simply because they do not have the resources to take on more work.

The counter argument emphasises that property prices are reaching pre-crash levels in a matter of months - hitting values that it previously took years of solid growth to reach. Such rapid expansion cannot be sustained in the long-term, which could result in severe contraction - which itself will stoke fear and could then bring about an entirely new financial crash.

On top of all this, renters who may have been able to finally break the cycle and buy a property for the first time may have found the window has already passed them by, as values grow to levels that are simply beyond the realms of affordability. The belief that property prices will stop rising once buyers can't afford them holds little water, as cash-rich investors will step in and pay over the odds for a property if it will boost their portfolio and bring in great rental returns.

In truth, regardless of whether it's deemed a 'bubble' or not, that's little more than semantics. A more pertinent question would be whether the recent trends are posing a threat to the market and if this needs (or is even able) to be stopped.

BoE decision

This leaves the BoE with something of a conundrum - whether or not to step in and manually cool the housing market. The governor, Mark Carney, has already noted that house prices are fast becoming his 'main concern' and that he's been following developments more closely than he ever has done in the past.

But does close monitoring equate to and precede manual intervention?

Of course, Carney is a man with a strong reputation, having been at Canada's financial helm when it managed to avoid the global financial crisis almost entirely. He is something of a maverick who isn't afraid to try something new and left-field (thereby following in the footsteps of most other BoE governors, for whom such traits were almost compulsory). With this in mind, it's worth noting that Carney won't intervene unless it's absolutely necessary - but will not shy from doing so if he feels it's required.

As such, a BoE intervention would be the largest body of proof that could be needed to suggest that recent conditions can indeed be classed as a housing 'bubble'.

Whether or not an intervention is needed should depend on the results of some recent reports from Britain's leading lenders. Banks and building societies (the most prevalent of which being Nationwide) have witnessed something of a cooling in the market in recent months. They say a ceiling has been reached across many areas of Britain - even the London hotspots - where prices have reached such a level that buyers are simply refusing to pay. The rush period of sealed bids and asking price offers may consequently be coming to an end almost as quickly as it restarted.

Whilst these claims are still somewhat new - and have not yet been echoed by all lenders across the board - these could determine whether the BoE needs to get involved. Should the market reach a natural cooling point, there will be no real need for intervention, as it will be under the guise of solving a problem that has already worked itself out.

If claims by Nationwide do not ripple through the industry as a whole, though, it may be risky - even careless - for the BoE to not interject. Without manual cooling of the industry, property values will continue to rise and price out large percentages of the market. Then, Britain's economy would be pushed into a precarious position once more - leaving the route clear for cash-rich investors to buy up more stock for their portfolio and keep tenancy levels high.

Just as with the reasons behind this financial crash in the first place, actions on its recovery are dependent on a vast array of disparate factors. As such, it's nigh on impossible to determine whether or not the BoE should take action - especially given that such means would send shockwaves through the industry - and possibly the economy as a whole. Whatever happens, though, it's perhaps the upcoming reports that warrant the closest scrutiny, as these could become the influence for Mark Carney's eventual decision.


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