Property Owning Plutocracy (Part 2)
15 December 2023
In our first instalment of this three-part series, we traced the origins of the current housing affordability crisis in London back to the tax reforms of the 1960’s and the deregulation of the financial services industry in the 1970’s. Then along came the radical reforms of the Thatcher era, with social housing tenants encouraged to become part of Britain’s “property owning democracy” via the landmark Right to Buy program.
In this next instalment we examine the roles of fiscal and monetary policy in the creation of a housing market where 36% of total net wealth in the UK is tied up in property (1). Unfortunately, in this binary market of ‘haves’ and have nots’, we also get a glimpse as to why a quarter of Londoners live in poverty (2). The Joseph Rowntree foundation stated that London "consistently had the highest poverty rate for two decades, principally due to very high housing costs" (3).
Is the London property market headed for a more severe correction or is it on the cusp of growth after a year of stagnation? To find out, you need to understand the history of how the market has arrived at this point.
Monetary Policy
There is quite a bit to unpack here. Let’s start with the blatantly obvious. The Bank of England (the Bank) casts a long shadow over the UK housing market. Interest rate settings shape market sentiment and move prices. Before we get into the weeds, it is important to understand that…
The Bank was granted independence over monetary policy on 6 May, 1997 just four days after the election of the Blair Labour government. Mervyn King, Governor of the Bank between 2003-13 declared “the decision to make the Bank independent was…the most important decision that the new Labour government made in its 13 years in power. (4)”
Interesting observation given that (now Lord) King found himself in the spotlight in 2012 on this very subject after a “decision by the government to take profits from the Bank’s bond buys and put them in the finance ministry coffers. (5)” Reuters noted that “it further blurs the line between fiscal and monetary policy, putting the central bank’s cherished independence at risk. (6)” Mere semantics? Nope.
Back in September, 2022, the average London property price was a record ￡543,572 (7). Fast forward 12 months prices were 1.1% lower as the cash rate spiked from 2.25% to 5.25%. A virtuous circle was in motion: higher monthly mortgage costs reduce borrowing capacity and property prices fall.
To date, the market has experienced a soft landing because both supply and demand have fallen. Whilst the economy has flatlined, the unemployment rate has remained stable, staving off forced sales which would otherwise seriously depress prices.
In a buoyant market, the opposite applies. The low interest rates of the previous decade provided plenty of elbow room for homebuyers to load up on their mortgages. Whilst not the housing mania of the noughties, these low rates fueled a 70% increase in London property prices through the 2010’s.
In the noughties average property prices almost doubled. Relative to the 90’s, interest rates were lower and stable. Pre-GFC, the economy was booming, consumer sentiment was strong and the banks were lending to anyone with a pulse. Whilst not on the same scale as the US sub-prime debacle, the excesses of the 80’s that crashed the market in the early 90’s had a decent re-run.
The Bank’s charter identifies that one of their missions is “stable prices - the Government asks us to keep inflation?at 2%. (8)” In 2021 when the Bank belatedly acknowledged that inflation was out of control, it pulled out the central bank playbook and hiked interest rates on 14 consecutive occasions. Crush discretionary spending, cool the economy and, voila, inflation is tamed. But at what price?
In real terms, the execution of this economic theory will have financially hobbled a good proportion of the 27% of Londoners who are mortgagees. Joining them will be PRS tenants copping double-digit rental increases as landlords pass on higher financing costs. Less so the 22% who own their homes outright.
A recent survey by the global consultancy Simon-Kucher found that 28% of UK consumers planned to reduce their spending in 2023, “especially for non-essentials such as luxury, entertainment and leisure items. (9)” Yet more than one-third expected to spend more on essentials like food (10). Not so for the wealthy where expenditure on luxury goods and experiences was up nearly 20% in 2022 despite the stock market tanking by a similar number (11).
There is a growing realization that current monetary policy is a blunt instrument, financially bludgeoning those who can least afford high interest rates. This is compounded for low- and middle-income earners by a ‘cost of living crisis’ that has sent the price of food and essential items soaring.
For the entirety of the last decade the cash rate was less than 1%. Granted, this was in the aftermath of the worst financial crash since the Great Depression. The housing market has been a major beneficiary of banks pumping cheap credit into the mortgage market in search of higher returns. It is beyond reproach that this has jacked up property prices, ably assisted by quantitative easing (QE).
“I think we were lulled into a completely false sense of security by thinking that interest rates could always stay low.” - Mervyn King, Governor of the Bank of England, 2003-13
Following the GFC, central banks in the US, UK and Europe embarked upon a bold experiment of pumping liquidity into financial markets via government bond-buying programs. In the UK, subsequent phases of QE were launched in August 2016, post Brexit vote, and in response to the pandemic. By 2021 ￡895bn of QE had found its way into the economy, equivalent to 45% of GDP. It is estimated that this may have reduced long-term interest rates by 2-3% (12).
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The Bank itself has noted that “changes in the risk-free real rate are a crucial driver of changes in house prices. (13)” This stark admission is cold comfort to two generations locked out of London’s property market or mortgagees prioritizing which household bills to pay. The root cause is a glaring omission in the Bank’s charter: it has no responsibility for sustainable house prices. Zero.
Fiscal Policy
The income tax and Capital Gains Tax changes of the 60’s heralded the advent of Britain’s property-owning plutocracy. Historically, government housing policy had delivered a “combination of low-cost land acquisition, power to determine planning applications, and large-scale council house building reduced market volatility and provided widespread, low-cost alternatives to home ownership. (14)”
Danisha Kazi and Laurie Macfarlane also observe that “state intervention on the supply side was supported by strict financial regulations that limited the amount of credit flowing into the property market, rent controls and a regime designed to balance the interests of homeowners and renters. The system was successful at keeping house prices under control and prevented property owners from extracting excessive rents. (15)” All before laissez faire housing economics became de rigour.
And it was not just home ownership per se. The seeds for the near trebling of London’s private rental market over the past 30 years were sown in 1988 with the introduction of the Assured Shorthold Tenancy Act. The rent controls in place since 1915 were abolished, landlords were given the right to evict tenants without cause, and the minimum term for tenancies was set at six months.?
In line with the government’s decision to drastically scale back construction of social housing, by 2000 more than 85% of housing subsidies were geared to the demand side to assist tenants pay rent. By contrast, in 1975, more than 80% of these subsidies were on the supply side to enable the construction of social homes (16).
For more than a decade, the government has been reaching into its fiscal toolbox and ratcheting Stamp Duty Land Tax (SDLT) up and down in support of its policy agenda. The success of these interventions related to housing affordability and availability is, at best, chequered.
A case in point is the pandemic era stamp duty ‘holiday’ spanning July 2020 to September 2021. Its net effect was to pour petrol on a fire ignited by pent up demand in the years preceding ‘Brexit getting done.’ These flames were then fanned into a bonfire by homebuyers migrating to greener climes, under the auspices of ‘work from home’ provisions, in search of a better lifestyle.
It could be argued that it was sound policy for the government to support the housing market as the economy ground to a halt and GDP fell off a cliff. Across its 15-month lifespan, it is estimated to have cost treasury ￡6.4bn in forgone revenue (17). Measured against the government’s total Covid-19 bill of between ￡310bn - ￡410bn (18), it was small beer. The hole in treasury receipts is not the issue.
It is the fact that this fiscal initiative helped inflate property prices in England by 21% in the two years from July 2020, London a more modest 11%. In theory, it should have been of greatest benefit to homebuyers in lower price brackets. In practice, it was those buying ￡1m plus properties who were the big winners. The stamp duty savings for first-time-buyers were obliterated by rising prices.
More recently, the government levied non-residents with a 2% stamp duty surcharge on property purchases. Combined with the 3% surcharge for those buying a second home, irrespective of jurisdiction, it means that on a ￡1m purchase an international investor could be paying an additional ￡50,000 in statutory costs. At a time when there is a net loss of landlords due to higher borrowing costs, a tightening up of tax provisions and increased ‘red tape,’ is this sound policy?
Perhaps nothing better illustrates the quandary the government has created for itself on housing affordability than ‘Help to Buy (HTB).’ Launched in 2013, the scheme provided all homebuyers with the opportunity to purchase a new-build home with a 5% deposit. In London, the government would act as lender for 40% of the property’s value, the balance to be funded via a conventional mortgage.
In 2021, the eligibility criterion was restricted to first-time buyers before the scheme was closed in March 2023. It was responsible for helping nearly 300,000 into home ownership, 82% of whom were first time buyers (19). So, what went wrong?
A BBC report (20) referenced HTB as “cocaine for housebuilders.” In the years 2010-15, housing completions by the ‘big five’ housebuilders increased by 48% in response to the HTB stimulus. Their ‘end-of-year’ total profits across this period jumped by a whopping 484% (21). ?At the height of HTB, the chief executive of housebuilder Persimmon, Jeff Fairburn, was paid a bonus of ￡75m, months before being asked to leave after the inevitable uproar (22). Neither were their shareholders forgotten.
Pre GFC, total dividend payments to the eight largest homebuilders totalled ￡300m-￡400m, increasing to ￡1bn by 2015. Come 2017 it had climbed to ￡1.8bn and two years later it was an estimated ￡2.5bn (23). At that time, the dividend payment was equivalent to the amount being spent by the government’s affordable housebuilding program (24).
A House of Lords report published in January 2022 was particularly damning of HTB, claiming the scheme “which will have cost around ￡29bn by 2023 inflates prices by more than its subsidy value in areas where it is needed the most. (25)” Baroness Neville-Rolfe, chair of the committee, commented: “Help to Buy had its virtues…but in London…it’s gone straight into price. (26)”
Successive governments have championed the merits of home ownership. Margaret Thatcher at least delivered on her vision of a “property owning democracy.” Tony Blair promised to “increase home ownership by one million.” Failed. Boris Johnson held out the promise of “giving millions of young people the chance to own their own home.” Failed.
Fiscal policy has amply rewarded existing homeowners through decades of price inflation, particularly those aged over 50 who hold 78% of the UK’s housing wealth (27). Likewise, an army of mum-and-pop property investors turned landlords. It has enriched property developers, builders, and their shareholders.
But not Generation Rent who have watched promises of affordable housing evaporate like a shallow puddle on a hot summer’s day. What does all this mean for the future of London’s housing market? Coming up in our next instalment…