Steve Keen has an article in Business Spectator on housing bubbles, a topic he has written about extensively before. Comparing various countries, he describes the UK as having the "Big Daddy" of all possible housing bubbles. Certainly, his graph is impressive, showing a fourfold rise in real house prices in the UK since the 1960s.
The graph below is perhaps less impressive. This shows the average house price in the UK divided by disposable income per head. Also shown is the ratio of household debt to disposable income.
There are various interesting things here. First, the ratio of house prices to income, whilst higher than average, is not greatly so. The last figure in the graph is 112% of the average for the period. It is clear though that this depends on the period being observed. If we were to look at the figures only from the early 90s onwards, for example, current levels would look much higher. Taking the data back to 1955 (the earliest figures I could find) wouldn't change the picture much. The current level is 115% of the average over that longer period.
Another thing we can see in the graph is the massive rise in household secured debt over this period, from around 20% of disposable income to a peak of around 130%. Although the rate of change of this ratio has varied over the period, it is only in the last few years that it has shown any material decline. What is also interesting is that the three peaks in relative house prices all come after a period of relatively strong growth in the debt ratio (less marked in the first instance).
There are good theoretical reasons for expecting a relationship between the level of secured debt (most of which is mortgage debt) and house prices. What is less clear is the causal nature of that relationship. It could be argued that both the rise in house prices and the increase in debt are the result of an increased demand for housing, which is itself caused by other factors. Those factors might be demographic, interest rate related, speculative or something else.
An alternative analysis would see the increase in debt as itself part of the explanation for the increase in house prices. Under this approach, there would be some level of latent demand that is constrained by the lack of finance. As more mortgage debt becomes available, perhaps as a result of developments in the finance industry, this demand becomes effective. Certainly, the latter two periods of growth in debt ratios have coincided with significant financial deregulation and innovation.
As always, the true answer is probably a mix of both. However, my own view is that the latter effect is probably the more important. It might reasonably be questioned whether a demand for debt levels over 100% of income has really been lying latent since the 1960s. However, I think it is quite possible that as higher debt to income levels become the norm, they set a new benchmark. This generates a new layer of latent demand. Thus, the standard debt ratio slowly grows over time (although of course it cannot grow forever).
As a further piece of analysis, I looked at the net equity in housing relative to income. This is shown in the graph below. This is based on the graph for house prices, but I have subtracted out the average level of secured debt per property.
The shape of line is fairly similar to that for house prices but with less slope, reflecting the rising debt. From this graph, the current level of this ratio is pretty much equal to its average value for the period. Why might this measure be relevant? Well, one possible factor is that people in the UK may regard the net equity investment in their home as part of their core lifetime savings. They accumulate wealth during their lifetime and feel more secure investing that wealth in owning their own home rather than in financial investments. Under this analysis, relative returns on different assets are less important.
On this basis, the ratio of net equity to income simply reflects a normal lifecycle of saving. If additional debt funding is provided to the housing market, the net equity investment stays the same. The total investment in the market therefore increases, which will result in increased house prices.
Again, whilst I don't think this is a complete description, I think there is an element of truth in this as a description of the UK housing market.
So, does this mean the UK has currently got a housing bubble? I think the answer depends mainly on what happens with debt, which may depend a lot on what happens with interest rates. If interest rates remain relatively low going forward, then it is quite possible that the debt to income ratio can remain at a high level for quite a long time. If that can happen, the UK could quite easily avoid a significant fall in real house prices.
None of this however addresses the inequitable ownership of property in the UK, which is itself symptomatic of these trends. This is something I want to look at in later posts.
Sources: ONS, Bank of England, Nationwide, DCLG, own calculations.