Mark Dampier: Don't be fooled – the worst isn't over

The Analyst

Some statistics have been released recently that may lead some to believe that the economic situation is getting better. The Halifax house- price index recorded a 1.9 per cent increase last month, while retail sales showed a big tick up. Unfortunately, I'm convinced that both are just blips.

Firstly, house prices are still completely out of proportion with earnings. It has been well established over the years that a mortgage of three times salary with a 25 per cent deposit is a pretty sensible arrangement. However, if average earnings are around £25,000, this would translate into a mortgage of £75,000. Even assuming a deposit of £25,000 can be scraped together (tough in this climate), that would only allow someone earning the average wage to buy a house for £100,000. Yet the average house price is still north of £150,000. Obviously, a working couple could afford more, but it still seems to me that buying a house is still realistically beyond the means of the average citizen.

I don't see any evidence that houses are in short supply either; if that were the case, then surely rents would be rising, but in fact they are falling. This is hardly a recipe for the bottom of a housing market, so I believe prices still have much further to fall.

However, eventually the bottom will arrive and that will be a great step on the road to recovery. It will enable banks actually to place a realistic valuation on a lot of their bad debts, and allow credit markets to take proper stock of the situation and start moving forwards.

What about the retailers? Well, they brought in massive discounts over the pre- and post-Christmas period that lured consumers into the shops. However, their profit margins must have taken a battering, and I doubt the increased sales volume really made up for this. In addition, there is still far too much retail space – there are a few empty shops in pretty much every city centre by now.

The credit binge of the last 10 to 15 years will not return. I think this is a good thing, but sadly, government policy seems like more of a hindrance than a help right now. Trying to spend your way out of trouble is a perverse strategy. Its proponents are quick to cite John Maynard Keynes, but what they forget is that there are two facets to Keynes' theory. While he suggested that governments could spend their way out of an economic bust, he also said they needed to stockpile money during the boom. Gordon Brown and his government totally failed to do this.

A VAT cut that reduces prices by 2.13 per cent will cost the Treasury over £12bn, but is hardly going to revive the economy. It is just pouring good money after bad. Perhaps the Government should start by putting its own house in order. There is no quick fix to this mess, but a starting point would be to cut the bloated public sector by slashing spending by at least £100bn (just a small part of the total spend). We don't need to do this by sacking essential staff, but by culling layers of unnecessary middle management. Abolishing quangos would be another step in the right direction, because we waste more than £100bn on them. Unfortunately, the Government believes its own propaganda, and the Opposition appears to be paralysed.

The lesson for investors is that, more than ever, they need to take good care of their own affairs. A change of government seems likely in a couple of years, but whoever is running the country will certainly want to get their hands on more of your money. It is time to hunker down and make good use of all your various tax shelters, such as ISAs and Sipps. Pretty much every adult has allowances of at least £10,800 a year through those two, allowing you to protect a big chunk of your savings from the tax man.

Mark Dampier is head of research at Hargreaves Lansdown, the asset manager, financial adviser and stockbroker. For more information about the funds included in this column, visit www.h-l.co.uk/independent