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Chapter 1

What outcomes do we want?

Since the financial crisis of 2007–9, discussion of a ‘housing crisis’ has been growing and a range of policy responses have been put forward. For example, the mortgage guarantee scheme introduced in late 2013 as the second part of ‘Help to Buy’ was intended to help kick-start sluggish housing transactions, while the so-called bedroom tax introduced in April 2013 reduced housing benefit for those with spare bedrooms in an effort to cut the growing housing benefit bill. By mid 2014, the primary concern was the overheating market in London and its hinterland. But these policy responses and debates don’t effectively tackle the big underlying issues that have emerged over recent decades, including a widening gulf in wealth between those in owner-occupation and those out of it, and the resulting concerns about inequality between generations.

Governments are rarely precise in how they measure their success with regard to the housing market. In 2007, the ­Labour government summed up its aspirations as follows:

We want everyone to have access to a decent home at a price they can afford, in a place where they want to live and work.2

It would be possible to measure the success of the first part of this goal, but the second part may not even be feasible.

The housing goals of the 2010 coalition government, as stated on the website of the Department for Communities and Local Government, have varied. The 2013 version included ‘helping more people to buy a home’, which might imply that one criterion for success would be a higher rate of ­owner-occupation. This has been an implicit or explicit policy goal for governments of all persuasions since the 1970s. But many other goals are pursued by governments, including managing house price inflation if it signals an unsustainable boom, or not building on green belt or environmentally sensitive land. Achieving success in terms of any of these aims requires (among other things) some myth busting.

Is more home ownership desirable?

Long-term policy support for home ownership has been quite successful. The share of owner-occupation in England rose pretty steadily between 1961, when it stood at 44%, and 1991, when it reached 68%. That level changed little until the financial crisis. So, while in 2001 the share of owner-­occupied households reached 70%, after 2007 that share fell, to 64% by 2012. Table 1.1 indicates that the rise in owner-­occupation in the 1960s and 1970s reflected a move out of the private rented sector, whereas in the 1980s and 1990s it was the share of social housing that fell. The post-crisis fall in ­owner-occupation has been offset by a move back into the private rented sector: its share has risen from around 10% in the early 2000s to over 18% in 2012.

Table 1.1. Changes in share of household tenure (England).

	Owner-occupied	Social rent	Private rent
1961	43.9	24.5	31.6
1971	52.4	28.3	19.3
1981	58.4	30.5	11.1
1991	67.6	23.0	09.4
2001	69.7	20.2	10.1
2007	68.0	17.7	14.3
2012	64.2	17.3	18.5

Source: Department of Communities and Local Government.

Myth 1The UK has an unusually high rate of owner-occupation

In 2012, among other EU countries, only Germany (53%) and Austria (57%) had an appreciably lower rate of owner-­occupation than the UK, according to Eurostat figures. In both Italy and Spain the rate is around 75%. However, the proportion of owner-occupiers in the UK who have a mortgage on their property is comparatively high and we still have a somewhat above-average proportion of households in social rented housing. The share of the private rented sector is a little lower than the EU average (notably, ­Germany and the Netherlands have bigger private rented sector shares).

It is argued that a high level of home ownership leads to better care of the housing stock, and more commitment by households3 to their community. While this might be true, homeowners also tend to be better off and better educated, which might contribute to these behavioural ­effects. There is not enough evidence to disparage tenants’ public spiritedness. But housing tenure can have social consequence. In the US context, Anne Shlay has commented that home ownership is

not simply an indicator of social inequality; it is a causal mechanism underlying inequality. Also important is housing tenure’s role as a basis for solidifying divisions and antipathies among different social groups.4

There are also economic arguments against too high a rate of home ownership.5 The most important is that a high rate of home ownership tends to reduce labour mobility, and so makes it more difficult for adjustment to take place following economic shocks, such as a recession. Young people may find it harder to leave home to look for work if there is a thin or expensive rental market. The scale of these effects is uncertain, however, and it is obviously not solely home ownership that makes people reluctant to move but also attachment to an area or family ties.

Another important consideration is that a high rate of owner-occupation increases opposition to new residential building, because this is perceived to reduce the value of existing homes. For many households, the home is the largest single investment, so it is not surprising that new development proposals arouse strong emotions.

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 suggested. But rent controls, unless they are very carefully formulated, will choke off the desired increase in the supply of private rental property. Elsewhere in the EU, controls have not stifled supply, but this is because the controls often fail to keep rents much below market levels. A concerted resort to rent control, then, would simply be an attempt to fight the market by reducing the price of something that other policies have rendered in short supply. It is unlikely to succeed. Changes to encourage longer secure tenancies, or to control rent increases, might achieve a better balance between protecting tenants and retaining an adequate incentive for landlords.

Myth 4London and the South East are too congested, so we need to build more houses in the North and fewer in the South East

It is sometimes argued that people need to move to where the housing is, but it makes much more sense for housing to be built where people want to live and work. If governments really want to tilt the economic geography of the UK from south to north, then improved skills and transport links, the movement of government offices out of London and the creation of new cultural centres all need to come before building new housing. Most experts argue that housing supply should be focused on urban labour markets. Alain Bertaud has pointed out that once cities are thought of in this way, transport issues come to the fore.8 The alternative – restricting housing development in exactly the places where people want to live, and where settling would improve their welfare – is perverse.

Regional policy (and its costs and benefits) is a vast topic and it cannot be tackled here,9 but the balance of evidence suggests that, despite considerable expenditure, little success has come from efforts to regenerate declining cities.

It is also unfortunate that better data on rents in the UK is not available. The Office for National Statistics has introduced a recently developed rental series into a new measure of inflation, but at the time of writing this series was being reviewed. Rental data is important for measuring inflation, and for indicating the trend in housing affordability.

Homes where people want to live

At any time different towns and regions will experience very different housing pressures. During the recovery from the financial crisis, London’s international status has driven up house prices there. But cities such as Stoke-on-Trent, where the housing market was still being regenerated in the late 2000s, have seen a far slower return to upward price pressure.

Spatial policy has recently moved backwards. In 2010, the coalition government ended regional planning, choosing instead to focus on local planning (through ‘local enterprise partnerships’), making it difficult to develop a coherent approach to regional spatial questions. This is a pity both from a development point of view and from an environmental one. Issues of water scarcity, or of biodiversity, are often best considered over quite wide geographical areas, and these debates cannot now easily take place.10

Summary

All governments surely want to see the population decently housed, and yet major housing issues are still not being tackled in a systematic way. Politicians find it hard to resist introducing short-term policies that seem to support the popular desire for home ownership, directing subsidy towards those who are nearly able to afford to buy a house, but this is not the best use of taxpayers’ money in the housing market.

Economists tend to prefer policies that level the playing field between home ownership and renting, but they are not easy to implement. Policy towards the private rented sector is itself confused: it aims to limit rent rises and to encourage more investment, but these are conflicting aims.

The fundamental issue is that a house is inevitably both an investment asset and a provider of housing services. If declining supply relative to demand is likely to result in a long-term trend of rising prices, it will be a major incentive for buying a home.

The UK has experienced a long-run undersupply of housing relative to demand, which rises because of higher incomes and a growing population. (Demand is not the same as ‘need’: the latter would imply we all lived in houses that just met government-determined space and bedroom allowances.) The recent financial crisis has been followed by a sharp fall in supply, but the shake-out of smaller developers and the loss of construction skills means that just getting back to the level of new housing supply delivered in the mid 2000s may take several more years.

On top of this, foreign buying is distorting the market in key cities (especially London), the tax system could be better structured to encourage housing supply, and there is a basic question as to how much housing is compatible with environmental concerns: both for the UK as a whole and for particular areas.

All these complex and interrelated questions need to be viewed through a clearer policy lens. The rest of this book seeks to do just that, focusing chiefly on private housing. ­Social housing deserves its own book.