If neither social nor economic arguments for a high rate of home ownership are compelling, why does this tenure so often receive special treatment? The obvious answer is that in the UK it remains the long-term aspiration of the majority. The Council of Mortgage Lenders has drawn together a sequence of surveys (conducted since the mid 1980s) that suggest that around 80% of households would prefer to be homeowners within a decade. There was only a slight decline in this proportion after the financial crisis, despite the initial fall in house prices. Governments want to be seen to support this aspiration but they are hampered in their ability to do so by the paradox that while it is easier for first-time buyers if house prices are lower, falling house prices are obviously unpopular with the majority who already own a home. So governments resort to measures to subsidize ownership. These help some people but fail to tackle the underlying problems in the housing market, and they can therefore have an adverse impact on other households by pushing prices higher.
Building more homes is often an unattractive option for politicians, especially at local level. The benefits of boosting supply only become apparent after a number of years but voters voice strong local opposition to building on specific sites today. Governments can most effectively rise to this challenge if they convey clear messages about why increased housing supply matters, and about the potential riskiness of home ownership. It is not for governments to prescribe the tenure mix we ‘ought’ to live in, and it’s actually a bit odd that governments support our preference for home ownership: many households will have other economic aspirations too (owning a luxury car, for example), but we don’t expect government policy to subsidize these.
Affordability
It is often asserted that housing is becoming ‘unaffordable’, usually on the basis of house prices relative to earnings. But care has to be taken when interpreting the facts here (see figure 1.1). Dual-earner households can clearly afford more in mortgage payments, and interest rates have fallen, which makes the initial mortgage costs more affordable than they were in the 1970s or 1980s. Interest rates have fallen along with wage and price inflation, so the real cost of the capital repayment of a mortgage has tended to rise. Lower interest rates and more dual-income households have not fully offset the rise in prices, which has resulted in a rise over time in the age of first-time buyers. Loan-to-income ratios for first-time buyers have been on a long-term upward trend. It is these long-term considerations that suggest a persistent failure of supply to keep pace with demand, although the underlying trends are not easy to separate from short-run volatility driven by changes in the price or availability of credit.
Figure 1.1. Ratio of average house price to average earnings for the UK (solid line) and for Greater London (dashed line). Source: Halifax House Price Index.
In addition, the upward trend in house prices relative to incomes, which has persisted for the past forty years, has resulted in a changed picture of wealth inequality. One effect has been to spread wealth further down the income distribution, which might be considered a good thing. But it has become harder for people who cannot become homeowners to accumulate wealth.
Myth 2Rising prices mean housing is unaffordable for all
Once a household enters owner-occupation, the expectation of future house price rises actually means, despite cash-flow pressures from mortgage payments, that its housing costs are often rather cheap. It is those unable to access owner-occupation, who may well be paying higher rents, for whom housing is expensive.
The role of the private rented sector
Since the financial crisis, the private rented sector has come to play a larger role in the housing market, with more people having to opt for renting, rather than borrowing to buy a home. Two potentially incompatible policies have been proposed in response.
The first is to encourage the building of new private rented capacity to meet growing demand, as new supply from ‘speculative’ homebuilders collapsed after the financial crisis. In 2012, the Montague Review6 proposed measures to encourage institutional investment in private rental. The government responded by offering finance for suitable proposals, which took some of the risk away from investors, and it also guaranteed debt used to fund new private rented sector schemes.
These measures should help, but institutional investors may still need to see capital appreciation because net rents (rents after management costs are subtracted) in the first decade of the 2000s produced a yield of only 3.5%. Buy-to-let landlords with only a few properties tend to undervalue their management time, giving them an apparently better yield and enabling them to undercut institutional investors. Increased institutional investment in rental housing might therefore only be financially viable if potential landlords can acquire properties at slightly below-market prices.
Myth 3Leaving owner-occupied housing costs out of the inflation target helped bring about the financial crisis
It is arguable that the Bank of England’s Monetary Policy Committee (of which I was then a member) kept the bank rate too low in the period leading up to the financial crisis. But this was because we failed to pay enough attention to wider financial imbalances and their long-term implications. House prices are not the right indicator of people’s housing costs in an inflation measure, as the UK’s Consumer Price Advisory Committee has recently concluded. Their preferred approach to measuring owner-occupation costs is based on ‘rental equivalence’.7 This is a measure designed to answer the question: what would the house that I presently occupy cost to rent?
The rationale for this is that house-price rises are only inflation for those contemplating house purchase. Existing homeowners will tend to feel better off, not worse off, when prices go up. If the consumer price index had included housing costs measured in this way in the run-up to the crisis, it would have made little difference to the inflation rate because rents (at least as they were then measured) were not rising particularly quickly. The debate about whether to include housing costs in the consumer price index has been a lively one, but this would not have altered the Monetary Policy Committee’s interest rate decisions in the mid 2000s.
There are caveats, however, about the rental equivalence approach to measuring housing costs. In the long term there is a strong relationship between rents and owner-occupation housing costs, but short-term imperfections in the credit market and/or periods of irrational expectations about house prices mean that they can get out of kilter with each other.
This could be achieved by local authorities designating some land specifically for private rental building – annoying the landowner, who would then receive a slightly lower price because of the planning restriction – or reducing the affordable housing requirement and other planning obligations for private rented sector sites. In return, investors could be required to keep dwellings as rental properties for a specified number of years, with the added benefit that this would offer greater security of tenure to the tenant. But this raises some risks. In particular, if the private rented sector has expanded mainly because of mortgage market constraints, it is reasonable to expect the demand for rented accommodation to decline as the mortgage market recovers. If private rented units cannot be sold to prospective owner-occupiers, there would then be a risk of voids (periods of vacancy between tenants).
The second policy response has been to try to limit rent rises, which have been a major contributor to pushing up the housing benefit bill. Steps have been taken to control rents, at least for housing benefit tenants, by reducing the level of rent eligible to be counted for housing benefit to those of the cheapest 30% in any area: an attempt to prevent landlords gaming the housing benefit system by raising rents. While this might help to keep rents down for these tenants (although it is likely to mean that benefit claimants will increasingly only be able to access the least desirable housing), there is little evidence of any effect on other rents, so wider rent controls are frequently