Tuesday, 29 January 2008

It is different this time

Why did the UK housing prices reach the extraordinary levels we see today? There is no shortage of answers to this question, but whatever the explanation, it invariably begins with those five fatal words - "it is different this time".

Some pointed to demographics; the nuclear family was breaking down, creating an army of lonely single home buyers. As this army expanded, housing demand increased. Others suggested that the huge number of migrants coming into the country put unbearable pressure on the market, and likewise pushed up prices.

There was a variation on this theme, which pointed to the endless number of wealthy rootless cosmopolitans, who came to London and bought up huge swathes of property, with only a casual glance at the prices.

Structural factors was another favourite. The UK's archaic planning laws was a well-worn argument, while the peace dividend in Northern Ireland provided a regional flavour to the "it is different this time" mantra.

Whatever the explanation, the conclusion was always the same; conventional methods for determining home valuations no longer applied to the housing market. There was no point looking at affordability indicators or price-to-income ratios. The UK had "changed fundamentally" during the last ten years, and this "change" was reflected in property prices.

Superficially, the "it is different this time" claim must be correct. Obviously, when prices are racing ahead at 20 percent a year, something very strange and unusual must be happening somewhere. The curious thing, however, is why people prefer to accept a convoluted explanation, when a simple and convincing one is ignored. There was something wonderful and magical about how a grotty little terrace house in, say Fulham, could into multi-million pound money making machine. This magic needs a magical explanation.

Unfortunately, the answer to this transformation was obvious to anyone who wanted an honest explanation for the housing bubble. A casual visit to the Bank of England's online statistical database provided the answer. It has been credit that has driven the beast. The banks have gone on a lending binge. Households have met the banks halfway, happily absorbing the huge quantities of debt that have recklessly poured into the housing market.

The English language strains to provide a vocabulary that can describe this growth of credit. To say that lending standards were lax does not come close to describing the myopic decision-making process in banks. Describing the stock of outstanding debt as huge, somehow misses the intrinsic irresponsibility of piling on debt without any thought of how it would be repaid. However, let us give our limited vocabulary free rein; this huge outstanding debt stock arose from a voluminous, gargantuan, historically unprecedented borrowing binge that has endangered the financial well-being of the UK economy.

Whatever we may have thought in the past, today, the phrase "it is different this time" is taking on a new and frankly terrifying meaning. The UK, along with large parts of the industrialized world, now face a financial catastrophe. Disaster beckons, judgment day approaches and the UK economy must now answer for its transgressions.

To calibrate just how bad things are, go back 12 months to January 2007. Suppose somebody said that within the next 12 months there would be run on a major UK bank; that a rogue trader would lose a French bank some $7 billion; that virtually every major investment banks would own up to billions of dollars of losses, requiring them to run around the world, cap in hand, looking for new funds to recover their lost capital. Would you have believed any of this? As we all know, these few examples are but a sample of the financial shocks that are being uncovered almost daily.

Things are different today; and with this change, comes new darker consequences. Property prices are sliding, recent data has established this as a fact. As they slip, all those childish illusions about easy money evaporate. All that will be left will be those debt contracts, which were so easy to sign, but will yet prove to be so painful to honour.

Here, we find something constant and unchanging. Debts must be repaid, or the debtor must default and accept financial ruin. Today, UK households are beginning to appreciate this crushing stability of debt. Bubbles may come and go, and with them, our pathetic illusions, but the debts, they stay until they are repaid in full.


Lord Wragley of Myre said...

"...the debts, they stay until they are repaid in full."

Dear lady, how wrong you are! Thousands will declare bankruptcy over here and never pay back a cent! In the USA homeowners who can no longer afford to pay their mortgages are merely sending in the keys and leaving the house--it's called "jingle mail," and it's catching on faster than chlamydia. That's the whole thing about our new economy--you can run up as much debt as you like and never worry about repaying it!

Bob_in_Massachusetts said...

Here in the US, it is actually fairly painless to walk away from a house/mortgage. Generally, the only cost is you are blacklisted from acquiring another mortgage for seven years (or something like that.)

Given that many mortgages here were for 100% of home value, and prices in states like California and Florida are in a free-fall, there are literally millions of people here who owe more than there house is worth. Calculated Risk has posted some excellent projections on this.

Are there statistics of what percentage loans in the UK have been 100% of value?

In some ways, I wonder if things will unfold much faster in the UK than they did here, partly because buyers in the UK will be more likely to expect large drops in prices after seeing what happened here.

But also because the UK lacks some of the government institutions that support home lending here, like Fannie Mae, the Federal Home Loan banks, etc.

traderboy said...

i have no idea what proportion of mortgages were 100% financed, but i suspect a very large number were 95%, since that seemed to be what all the lenders were pushing the most. i know a few people who bought with just 5% down, although i don't know any who bought with 0% (although i've no doubt it went on)

Markbaldy said...

As well as banks, the government must share some responsibility for the mess we face.
Gordon Brown has always stressed how strong the UK's economy is - quoted "fixed" inflation figures to back that claim up - couple that with the acting prowess (pure fuc*ing lies !) of Mr Blair and the UK population thought everything was just wonderful.
I am sure that is why New Labour got in again in 2005 - people put all the sleaze and the Iraq war to the back of their minds and thought how wonderful life was under New Labour as their house had doubled in value, so didn't want the fantasy to come to an end.
Gordon Brown is still quoting this crap about the strength of the UK economy and blaming the current economic uncertainty on the US sub-prime market, when in fact lending in the UK per person and house price inflation is way above that in the US...I hope the day of reckoning is not too far away so "Mr Bean" can be held to account.

economonkey said...

Unfortunately this government seems hell bent on rewarding irresponsible borrowers and reckless lenders/investors. I wouldn't be surprised if we see a raft of ridiculous measures designed to ease their pain in the coming recession, with scant regard for the impact those measures have on the genuinely prudent.