Outlook: Markets don't plateau, they crash. So what about housing?

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The Independent Online

There was something of a Baghdad bounce in the housing market during April, confirms the monthly Nationwide survey, yet the underlying trend still points to a steady slowdown if not yet a falling market. Alex Bannister, Nationwide's group economist, reflects mainstream thinking in insisting there will be no crash, but rather a steady slowing of the annualised rate of house price inflation from 21.3 per cent now to about 10 per cent by the end of the year.

There was something of a Baghdad bounce in the housing market during April, confirms the monthly Nationwide survey, yet the underlying trend still points to a steady slowdown if not yet a falling market. Alex Bannister, Nationwide's group economist, reflects mainstream thinking in insisting there will be no crash, but rather a steady slowing of the annualised rate of house price inflation from 21.3 per cent now to about 10 per cent by the end of the year.

There are a number of reasons for believing otherwise, quite apart from the general rule about the psychology of markets, which is that they never plateau but always overheat, overshoot and then crash.

In its last quarterly Inflation Report, the Bank of England goes further than Nationwide and says that a year from now, house price inflation will have slowed to nothing. Since the Bank of England couldn't publicly predict falling prices, for fear of making them a self-fulfiling prophecy, it is reasonable to assume that this is indeed the privately held view of at least a minority of the Monetary Policy Committee - that eventually prices will start falling.

Scratch the surface of yesterday's clutch of data on the housing market and it seems to confirm the view. Mortgage lending was again at a record level in April, but the growth was entirely accounted for by remortgaging and equity withdrawal, which raises disposable income, thereby boosting consumption, but doesn't do anything to support the housing market. By contrast, the amount of lending for house purchases was again sharply lower, while first-time buying seems to be falling off a cliff.

We already know that the top end of the market is falling, but if it's not being supported at the bottom either, then eventually it will ripple right through the system until prices fall to a level low enough to restimulate demand. The key figure to watch here is house prices as a multiple of average household income. The long-run average is a little less than four times. Right now it is close to its all-time high last seen during the house market boom of the late 1980s of about 5.5 times. In London and the South-east it is a good deal higher.

Exceptionally low interest rates, both in real and nominal terms, may justify a permanently higher multiple, assuming they persist, for although the real cost of housing has enormously increased, its affordability has increased as well. The amount of household income used to service mortgage debt is close to its all-time low of around 25 per cent, against nearer 50 per cent at the peak of the interest rate cycle in the early 1990s.

As it happens, the affordability measure may be something of an illusion, because the flip side of the low inflation, low interest rate story is that the real value of debt is no longer inflated away as it has been in the past. Low interest rates only make people feel better off as long as they ignore the millstone of debt that hangs around their necks, all of which eventually has to be paid off.

So even accepting that the decline in real interest rates justifies some kind of permanent increase in the multiple of house prices to incomes, it's probably still too high to be sustainable. How much too high is anyone's guess. The market will eventually decide, but it is not impossible to imagine a generalised fall in prices of 10 to 20 per cent from current levels.

What would such a fall do to the wider economy? Here I think the prognosis looks a little less alarming. That the housing bubble has supported consumption and thereby the wider economy is well known. Ergo, it seems reasonable to expect the mirror image if house prices begin falling? Not necessarily. The housing market is more robustly built this time around than it was in the early 1990s, when many found themselves trapped by negative equity, rising interest rates and, if you were really unlucky, unemployment too. Assuming interest rates and unemployment stay low, then falling prices shouldn't have quite the same catastrophic effect on demand as it did back then.

Even so, it will have some effect, which is one of the reasons why the Chancellor's strong growth forecasts for next year and the year after look so much like cloud cuckoo land. The Bank of England factors less consumption into its own lower and more plausible long-term growth forecasts, but even the Bank may be too optimistic. The Bank thinks the falling value of the pound will come to the wider economy's rescue, yet the boost British industry gets from a depreciating currency only really works if there is reasonable demand in the economies it is depreciating against. With large parts of the eurozone either in recession or positively deflating, that's by no means guaranteed.

The only thing that can be said with some certainty is that Britain will likely fare a little bit better than the Continent, despite a gently declining housing market.

Green/Harrods

The press has an unhealthy fascination with Philip Green, as the very fact that I'm writing about him again amply demonstrates. Yet it's mainly his own fault. The retail financier has allowed himself to become so overexposed that he is now linked with virtually every retail deal, real and imagined, that's going.

Safeway, Sainsbury, Selfridges, House of Fraser, Debenhams and now Harrods, you name it and Philip Green has supposedly been in there with his inimitable mix of bombast and profanity to bludgeon his way to a deal. Only not many of them ever happen.

Still, no matter. There he is, staring out of the newspapers seemingly every morning as if some regular celebrity, which I suppose in a way he is. Even Nush from Big Brother can't have sold as many newspapers as Philip Green. For the time being the fascination is more in awe of his extraordinary wealth than the colour of his underwear, but it's only a matter of time before the reptiles start delving into his private life. Let's hope it's as clean as he says it is, and that his finances are as robust as they seem, for the press will be merciless if ever he should stumble.

In Mohamed al Fayed, owner of Harrods, he must finally have met his match. Here's a man who likes to be in the press even more than Mr Green, and can match him word for word in profanity as well. The two of them together must be a scream. Yet the suggestion that Mr Green might buy Harrods is surely the silly season come early. Mr Fayed recently gave up on his attempt to secure a British passport and moved to Geneva, but as long as he's alive and capable of raising a bob or two, he'll never sell Harrods.

Mr Green would be well advised to lower his profile before the press hang him out to dry. Whether he's capable of it is another thing, and it may, in any case, already be too late.

Sony/PSX

Only a Japanese company would attempt to combine music, film and video production with manufacturing the hardware necessary to pirate it all. Sony has managed the conflict better than might have been expected but, as its ever shrinking share price graphically illustrates, it may be fighting a losing battle.

Sony's Nobuyuki Idei hopes to repair the damage with a root and branch restructuring and the launch of new gadgets, including PlayStation X, a product which combines the familiar games console with a DVD player, TV tuner and computer hard disk. No one's convinced.

The three top games companies, Microsoft, Nintendo and Sony, are engaged in the sort of to the death battle that would sit well in one of their games. In the real world, it's not so entertaining. The competition both on price and technology is cut throat. Meanwhile, the group's music interests continue to wilt. The challenge of combining hardware with content may be getting too big to handle.

jeremy.warner@independent.co.uk

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