House prices now falling at fastest rate since early 1990s

House prices fell by 2.5 per cent during May, the fastest rate of decline since the housing recession of the early 1990s and the seventh successive month of falling values. The largest monthly drop ever seen in the Nationwide Building Society's regular survey of the property market prompted some economists yesterday to predict a "deep and prolonged" housing slump.

Prices are 4.4 per cent lower than at this time last year, the worst fall since 1992. The Nationwide's figures are in line with similar indices run by the Halifax and Rightmove, and the official data gathered by the Department of Communities and Local Government. Taking those into account, the three-month annualised rate of decline is probably running at 10 to 12 per cent.

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With most independent observers agreeing that the housing market may not recover until 2010, the Nationwide's figures strengthen the most pessimistic possibility currently circulating, of a loss in property values of 20 or even 30 per cent over a two-year period – even more in real terms, when rising inflation is taken into account. Such a crash would be far worse than anything the Government has so far admitted possible. In an inadvertent "leak" of briefing notes a few weeks ago the Housing minister, Caroline Flint, revealed that ministers are working on the assumption of a drop in house values of 5 to 10 per cent.

The price of a typical house is now £173,583, which is £8,000 less than at this time last year. Some home owners who bought at the peak will already be in negative equity, where their mortgages exceed the value of their property. Negative equity in this downturn will be, in absolute terms, much more serious than it was during the early 1990s, simply because the price of property has trebled since then, and even though, very recently, borrowers have been putting down larger deposits.

Repossession orders are running at a 15-year high, as homeowners struggle to remortgage and keep up repayments. However, the Nationwide points out that proportionately fewer homebuyers bought at the top of this market compared to the situation in the late 1980s, the last peak.

The credit crunch is responsible for much of the housing recession. Figures from the British Bankers Association this week showed a fall of almost 40 per cent in the number of new mortgage approvals, and there has been a "famine" of funds for first- time buyers in particular. Transactions are down by about a half in some areas. The 100 and 125 per cent mortgages have disappeared and the banks and building societies are generally more picky about their customers.

The credit crunch has pushed up the real cost of a mortgage to an eight-year high, says the Bank of England, despite cuts in the official Bank base interest rate. The collapse in confidence in the banking system has made financial institutions wary of lending to each other. That has shrunk the supply of available credit and driven its cost higher. The Bank has singled out the buy-to-let and commercial property sectors as being especially at risk.

Signs that the housing market is heading for a crash have heightened hopes the Bank will cut interest rates, despite soaring inflation in fuel and food costs. Fionnuala Earley, the chief economist at the Nationwide, said that "stronger than expected inflation appears to have shattered hopes of an early cut in the Bank rate in June but more downbeat economic and housing market data could lead more Monetary Policy Committee members to vote for pre-emptive cuts".

With or without another cut in interest rates, the longer- term outlook is poor. The Royal Institution of Chartered Surveyors said recently that sentiment in the market was at its lowest in 30 years. Leading indicators of future house price trends, such as the number of enquiries at estate agents, are also on a sharply lower trend.

Perhaps the most depressing factor, however, will be rising inflation itself, as it squeezes household budgets and takes spending power out of the economy. And while there have been falls, a decade and a half of price rises leaves much of the market still way out of the reach of first-time buyers. Further pain seems likely.

Plunging market

£173,583

Average house price today

£8,000

The average price fall since the same time last year

12 per cent

The three-month annualised rate of decline