Lenders warn of severe slowdown in homes market

Growing job insecurity as world economy hits the buffers is leading to fewer inquiries and transactions

The runaway housing boom that delivered windfalls of thousands of pounds to millions of people is poised to end, two of the country's leading housing bodies warned today.

The Council of Mortgage Lenders said house prices would rise by just 3 per cent next year and in 2003, compared with the meteoric 11 per cent it forecasts for this year.

Meanwhile, the organisation that represents surveyors also predicted a slowdown next year, saying that growing fears about the global economy and the mounting toll of job cuts would undermine confidence.

However, the two bodies were quick to stress they did not expect a crash in prices reminiscent of the bust of the early 1990s, which left millions trapped in negative equity.

These are not the first such warnings. Nationwide, the UK's largest building society, last month said prices were rising at an unsustainable rate.

The dilemma for homebuyers is that not only are these warnings repeated month after month but they are accompanied by statistics that should have homeowners dancing in the streets.

The Council of Mortgage Lenders said mortgage lending surged to £15.5bn in July from the previous record of £14.8bn set in June. As a result, the CML has doubled its forecast for house price inflation for this year to 11 per cent from its estimate in April of 5 per cent.

But its director-general, Michael Coogan, is quite clear that this pattern cannot be sustained. "Lending is likely to slow down as we move into next year," he says. "We expect prices to continue rising, but anticipate that the rise will become more sluggish."

The message coming from the Royal Institution of Chartered Surveyors is similar. Ian Perry, a Manchester surveyor and RICS's chief housing spokesman, said there were "real signs" the market had reached a turning point.

"Many chartered surveyors are reporting a levelling off in prices, some even a downturn in inquiries," he said.

However, its monthly report – a document closely read at the Bank of England – indicated another rise in prices in July.

Its survey, which is based on the balance of those reporting rising prices over falling prices, showed a positive balance of 54 per cent, the highest since March 2000. Only 4 per cent said prices had dropped.

The issue for lenders and borrowers – and the Bank of England, when setting interest rates – is to establish what factors are driving this performance and whether they can continue.

Probably the most important factor is the low level of borrowing costs. Following this month's rate cut, mortgage costs hit their lowest levels for more than 40 years. The last time rates were lower was in 1956, when they were cut from 5.98 per cent to 5.32 per cent. At the height of the 1980s boom they breached 14 per cent.

This has made houses more affordable, despite the rise in the capital values. At the same time, wages have been growing at a robust pace averaging over 4 per cent for the past few years.

This has allowed people to budget for higher mortgage payments. It has also translated into the lowest level of repossessions and mortgage arrears for 12 years. The other benefit of a strong labour market is that a record number of people are in work, meaning that demand for housing is likely to rise.

There is also a shortage of housing, with 40,000 more new households created every year than homes built.

Richard Donnell, head of residential research at the estate agent Savills, said there was a "massive mismatch" between employment growth and housing stock across the UK.

"That will continue to get worse as developers are beaten off greenfield land by planners," he said.

So why do people forecast a slowdown? The simple answer is a worldwide slowdown in growth that has been underway since January.

This must affect house prices as people are laid off, budgets are cut and bonuses fall. More than 350,000 job cuts have been announced in recent months as companies around the world have wrestled with slowing growth and plunging demand.

In the UK GDP growth has fallen from 0.9 per cent towards the end of last year to 0.3 per cent in the second quarter of this year.

Mr Perry said that, although the market had been sustained by the surprise cut in rates three weeks ago, higher prices, coupled with the fear of redundancy, might make buyers think again. "Recession in manufacturing is now a fact and the service sector showed signs of following," he said. "This is bound to be reflected in the housing market."

The CML believes this is what will lead to its forecast for two years of 3 per cent growth.

Alex Bannister, chief economist at Nationwide, said this was "pessimistic". The society is expected to raise its forecast for this year from 7 per cent to over 10 per cent.

Looking forward he stuck by his view that this was unsustainable. "It is unlikely that income growth will be maintained at current levels," he said. Bonus payments are likely to come in lower next year. "But that won't dissipate into households' incomes immediately," he said. "It takes time for people to look at their finances like that."

However, he concedes that there might be one-off monthly price falls as there were last year when the market ran out of steam and at the height of the 1997/98 global financial crisis.

The area where there is most concern is London where, on a different measure of affordability, the ratio of house prices to household incomes is almost as stretched as it was at the peak of the boom of the late 1980s.

An economists' firm, Cambridge Econometrics, last week warned of a "correction" in prices as the market returned to its long-term trend. This would particularly threaten first-time buyers, who have the greatest exposure to debt.