House prices will struggle for a decade

A new report warns that house prices are in for a tough ten years.

It will be 2020 before average house prices in the UK are back up at the previous peak levels, according to the latest UK Economic Outlook report by PricewaterhouseCoopers (PwC).

Working along a probability model, the firm has forecast that there is just a 50% chance of there being an increase in real terms in house prices by that point. Indeed, there is a decent chance of further short term pain to come, with the median probability of a 12% fall by 2015 from the 2007 peak.

So why is PwC so pessimistic? And is it right to be?

Years of austerity

According to PwC, house prices will drift down further over the next year, before a couple of years of only modest recovery.

The reasoning behind this is fairly simple – real income levels will continue to fall, due to a variety of factors including continued high inflation, while borrowers (and first-time buyers in particular) will struggle to get hold of mortgage finance.

On that first point, it's difficult to argue – even the Bank of England, whose job it is to keep inflation at a manageable level, has admitted that it is likely to remain well above that target for some time to come (in fact it is currently more than double the target, with the Consumer Prices Index measure at 4.2%).

A stalled housing market

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And this is making it extremely difficult for both buyers and sellers. The latest figures from online portal Rightmove have shown that 70% of the properties placed on the market so far in 2011 remain on the market. In other words, seven out of every ten people trying to sell a property are struggling to find a buyer. This is no doubt one reason that the average asking prices fell 1.6% in July.

What's more there are a number of other factors which will make financing more problematic. For lenders, there are new regulations that they will need to comply with which require them to keep more funding aside for liquidity purposes, to prevent becoming another Northern Rock. On top of that, they will need to start repaying some of the funding they received from the Bank of England to help prop up their lending over the past couple of years. That will put further downward pressure on lending levels.

And for borrowers, the fact that interest rates will have to start rising eventually, therefore making mortgages more expensive, is sure to dent demand for purchasing a property somewhat.

All this means there are plenty of reasons to be pessimistic about the immediate future of house prices.

Ingredients for recovery

With all that said, PwC is still keen to point out that this struggle for house prices is not a permanent correction, and that prices will still recover by the end of the decade.

And this is put down to ‘more normal’ levels of credit availability and the good old argument of supply and demand.

Whether mortgage lending will ever recover to the levels seen during the peak is highly debateable, as is whether you could ever term such lending as ‘normal’. But what is clear is that the current levels of mortgage lending are unusually low.

Below are the gross mortgage lending figures for the past ten years, according to the Council of Mortgage Lenders.

Lending levels are significantly below the early years of the century, let alone the peak years of the bubble. So it’s a fair assumption that they will increase over the coming years, barring further economic disasters.

Addressing undersupply

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And then there’s the supply and demand argument. It stands to reason that if demand is higher than supply, then prices are pushed upwards.

Demand is pretty healthy at the moment – according to the most recent figures from the National Association of Estate Agents, there was an average of 275 buyers registered with each member branch in May, an increase from the 265 last year.

But supply of housing is still problematic. The last Government conjured up all sorts of targets for new housebuilding, which they inevitably fell short of each year, and the new Government has done little to arrest that slide. In 2010 just 102,730 properties were built in England, 13% down on the previous year, and the lowest level during peacetime since 1923.

And it’s not got any better this year – according to the construction industry analyst Glenigan, new home construction levels fell 29% year-one-year in the second quarter. Private housing project starts fell 31% year-one-year, while social housing starts decreased by 26%.

Until this dreadful level of supply is addressed, there will always be an upward pressure on house prices.

What do you think?

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