Hope at last?

Patrick Hosking and Stephen Castle on the prospects for a house price recovery
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The Independent Online
IT SCARCELY seems possible, but for the hundreds of thousands of families for whom the 1990s have been a running nightmare of negative equity, there may at last be a glimmer of hope.

The housing market, desperately weak for so long that some said it would never rise again, is showing distinct signs of recovery (see below). Estate agents and mortgage lenders have a spring in their step; economic analysts are managing to raise a bullish smile. Soon it just might be the turn of homeowners.

Of course, we have seen false dawns before - two years ago for example, just before house prices dived into the second phase of their infamous "double dip". And all the organisations forecasting improvement have a vested interest in seeing the housing market recover, so we know from experience to have a pinch of salt handy when we hear them speak. And yet there are two powerful reasons why this time it could be different.

First, houses are now more affordable than they have been for many years. Average house prices have fallen to only three times average earnings - "historically very, very low", according to Gary Marsh, head of corporate affairs at the Halifax. The norm is between three-and-a-half and four times, and at the peak of house price madness in 1989, the ratio was five times average earnings.

Look at it another way: according to the newly-merged Lloyds TSB, a big mortgage lender, the typical house-buyer now pays pounds 25.70 in mortgage payments on every pounds 100 in income he or she takes home. That is the lowest proportion since 1978.

The second reason for optimism is that mortgages are now cheap. After last week's quarter-point cut, base rate is only 6 per cent and building societies are scrambling to cut their mortgage rates. Moreover, most mortgage lenders are falling over themselves to offer enticing deals, either handing cash sums of up to pounds 9,000 to new customers or sharply reducing the interest bill over the first 12 months.

Events, in other words, are conspiring to get the market moving. In the words of Ian Shepherdson, the UK economist with HSBC, the banking group which owns Midland Bank: "There is now overwhelming evidence that the housing market is recovering. The mortgage commitment figures suggest it's now about to start motoring."

Mr Shepherdson predicts that house prices will rise by 5 per cent this year and by 7 per cent in 1997. At the Halifax, Gary Marsh expects a 2 per cent rise this year and increases of between 5 and 10 per cent in each of the next two years. The Nationwide, too, is bullish, forecasting 3 per cent this year and 5 per cent in 1997.

THIS sort of turnaround would have enormous implications, most of all for those caught in the negative equity trap, whose home loans are larger than the value of their homes. These people are often stuck with large mortgages in houses they can't afford to sell at current prices.

According to the Nationwide, about 1.7 million households are still in negative equity, but the striking thing about their predicament is that it would take only a modest increase in prices to rescue many of them.

The Nationwide says that its predicted 3 per cent average price rise this year would rescue 300,000 negative equity casualties, and the 5 per cent rise in 1997 would save another half million. By the year 2000 (see graph, below) it foresees only a tiny rump of cases remaining - with East Anglia, which saw the most extreme movements in prices in the late 1980s, worst affected.

Besides the benefits for the victims of the trap, there would be a wider impact on the economy as a whole. The "wealth effect" was one of the most striking features of the property boom of the 1980s. People borrowed on the strength of the rising value of their homes and went on a spree. No one is predicting a return to those days, but firmer house prices would inevitably make people feel more comfortable about spending the money they have on big purchases like holidays or even about borrowing to buy a new car.

And more property transactions mean that business hums for numerous ancillary industries - conveyancing, estate agencies, home and contents insurance, home loans, life assurance, building services, furniture, carpets and wallpapers, DIY and gardening products. Housing in its widest sense accounts for a substantial chunk of the economy.

Paradoxically, a house price recovery may not produce any noticeable boost to jobs and profits. Most of these industries suffer from excess capacity. They were built up to service the demand levels of the late 1980s, when an insane 2.1 million homes were changing hands each year at the peak. Some companies have bitten the bullet, closing offices, shops and branches and axing jobs. But some have not, believing the good old days can still return. It may be the comparative modesty of the upturn that convinces them they never will.

Among the very happiest people in the event of a house market revival, in fact, would begovernment ministers. Negative equity among the homeowning middle-classes has been a dreadful cross for them to bear in the past five or six years.

It was, after all, the Conservatives who urged people to buy in the 1980s, and who surfed the wave of the "wealth effect". For many voters, and particularly the young and upwardly mobile, the house price crash and the inability of the Government to rescue them was like a betrayal. The feeling deepened in early 1994, when what looked like the beginning of a recovery was snuffed out by sharp increases in personal taxation.

As ministers know, Labour is poised to beat them with this stick at the election. A source close to Tony Blair, the Labour leader, said of the victims of negative equity: "They associate this financial loss not with the Nationwide Building Society but with the Conservatives. They bought into the ideas the Tories put forward and it is the most tangible sign of the Government's failure." Another Labour source said: "For most people, their home is their biggest financial commitment. The housing slump is therefore the best example of them being worse off under the Tories. That is why they feel bitter."

No wonder, then, that ministers talk the market up for all they are worth, pointing out at every turn how cheap mortgages are. And no wonder that Kenneth Clarke, the Chancellor of the Exchequer, is so determined to bring down interest rates and keep them down. This weekend he will be pondering Wall Street's jittery mood with some concern. Tory managers, meanwhile, have their eyes on the graph - as below - that shows a rising tide of house prices lifting hundreds of thousands out of the negative equity trap.

As HSBC's Mr Shepherdson says: "House prices affect voting intentions. It would be amazing if the Tories' poll rating didn't show a positive response."

Labour, for its part, is not standing still. Last week, Mr Blair gave a lecture that completed Labour's "repositioning" on housing. He promised greater legal protection for those given poor mortgage advice, but his main objective was to build on the best practice of existing borrowers - "lifestyle" packages (allowing people to vary repayments if they lose jobs or take a cut in earnings), escape routes to renting for those in financial trouble, and mortgages of more than 100 per cent for those in negative equity. These would be encouraged, Mr Blair said, but Labour would not legislate to force the building societies to offer them.

In the Commons, Michael Heseltine, the deputy prime minister, taunted him with leaflets showing that such arrangements already exist. "Building societies are doing it. The market has spoken. Tory government works," he said, in words that gave a foretaste of the electoral battle over housing that is to come.

NO ONE, not Mr Heseltine, not the building societies, not the estate agents, and certainly not the negative equity victims, is banking on an upswing, no matter how positive the auguries.

They know how suddenly this sunnier outlook has come along. It was only last summer that there seemed no end to the decline. By July, prices were 3.1 per cent down on the previous year. The more bearish pundits were talking of meltdown in the housing market. Certainly some people thought Britain's love affair with property ownership was over for good. The Inland Revenue said the number of transactions was at its lowest since records began. Professor Douglas Wood of Manchester Business School horrified millions of property-owning Panorama viewers when he predicted that house prices would fall by between 20 and 30 per cent in real terms over the next two decades.

Strong arguments lay behind all that pessimism, and they have not all gone away. Even if all the conditions which once were thought necessary for a house price recovery are in place, it may not be enough because society itself has changed.

For example, job insecurity, a powerful dampener on house demand, used to be associated with recessions. Now we know it is a malaise that persists whatever the economic climate. Cost-cutting and downsizing mean that employees are never sure if their jobs will be there in a week, a month or a year, and they are correspondingly reluctant to commit their future earnings to bigger and bigger mortgages.

People in any case are still heavily in debt by historic standards and are unlikely to gear up any further. House prices are much less likely to rocket when the general inflation rate is standing at only 3 per cent.

Most compellingly of all, demographics are now working against the housing market. The population of first-time buyers , the engine at the bottom of the market which creates and drives new "chains" of buyers and sellers, is shrinking alarmingly. Between 1971 and 1981, the number of 20- to 29- year-olds rose by 145,000; between 1981 and 1991 it increased by 1.2 million. But in this decade - from 1991 to 2001 - it will shrink by 1.9 million. There are, in short, far fewer people to buy the flats and maisonettes now owned by slightly older couples hoping to move into houses and start families.

In this climate Simon Briscoe, an economist with Nikko Europe, advises extreme caution. Net mortgage lending has risen by 20 per cent since last October but, he says, "we see it as a recovery from the appalling weakness of the autumn, not as a new burst of strength". Net lending in January was still 6 per cent below the levels seen a year before.

"The building societies and the Government have a keen interest in talking up the market and the current spurt might last for a while, but it would be a cruel deception to pretend that the structural problems have disappeared," he said.

On the other hand, Britain's all-consuming passion for bricks and mortar is far from dead. And there are still plenty of people in their twenties who have the wherewithal to buy but have held off from stepping on to the first rung of the property ladder. A surge of buying by them could certainly provide a short-term fillip to demand. And in the longer term, after all, those demographics start producing another bulge of first- time buyers: between 2001 and 2011, the number of twenty-somethings will grow again - by 400,000.

THE PROMISING SIGNS: The Halifax Building Society house price index, which reflects home prices nationwide, has now risen for seven consecutive months.

UK house prices rose 0.9 per cent in February. The year-on-year change turned positive for the first time in February: house prices were up 0.2 per cent compared with a year earlier; in January they were down 1.2 per cent.

The Nationwide Building Society's house price index, although less clear-cut than the Halifax's, also points to a modest recovery.

The number of homes changing hands is on the increase. The Inland Revenue reported last month that total transactions in England and Wales rose to a seasonally adjusted 98,000 in January, a sharp rise from 89,000 in December.

The number of prospective buyers with the promise of a mortgage in their back pockets is rising. New mortgage commitments were 80,000 in January, up from 76,000 in December and 71,000 last June, according to the latest figures from the Bank of England.

Estate agents are more confident than at any time in the last 18 months. The Birmingham Midshires Building Society polled 300 estate agents across the UK last month: 66 per cent thought the house market was improving; only 5 per cent thought it was getting worse.

House builders are reporting an increase in buyer interest, with more potential customers visiting building sites, according to a survey last week from the House Builders' Federation. Prices for new homes have stabilised after falling since September 1994.

Member firms surveyed last month by the Royal Institution of Chartered Surveyors (RICS) reported a marked rise in "foot traffic" - prospective buyers and sellers making inquiries at estate agency branches. Prices, meanwhile, have stabilised.

The recovery seems to be across the country. Regional variations are smaller than for many years, according to the Halifax, though the South seems to be doing slightly better than the North. In the Birmingham Midshires survey, estate agents in the South-east, Midlands and East Anglia were most bullish. There are differences in the types of property in demand: large country houses are doing best; maisonettes and flats are doing worst.