The wrong girlfriend to buy a house in London

Soaring house prices are creating a generational gap. Mortgage lender Halifax is the latest one out with data on the topic.

“If you are under 35, it’s likely there is little chance of you ever owning your own home,” summarised Rob Wilson at The Telegraph.

It’s the end of the bachelor pad, writes his colleague Katie Morley. Men now need their partner’s financial backing to buy a home.

What a fascinating reason to get a girlfriend – her savings for a house deposit.

But there’s no way this is going to work with a Japanese girlfriend. Japanese people don’t assume property prices don’t go up. So borrowing is purely about the capacity to repay based on income. Your deposit is for the bank, not the first smidge of home equity.

There’s no property ladder and no magical gains to miss out on in Japan. Property investments are seen as a bit odd, involve low quality housing, and are justified based on rental return. People behave sensibly and think about things like earthquakes instead of capital gains.

Then there’s the Western world…

According to Halifax’s research, the young blame stagnant incomes, not rising house prices, for the intergenerational housing gap. That’s a mistake.

If you try and play with The Telegraph’s calculator of how long it will take you to save enough of a deposit for a house in London, you will become depressed. House prices rise too fast to keep up.

The government is already solving the problem of unaffordable housing by supporting buyers with various schemes. However, this makes house prices go up more…

Which begs the question, who controls house prices? Who should younger generations blame for our blight?

Is it the baby boomers who refuse to downsize? Are young people eating too much avocado to save up for a deposit, as one commentator claimed?

Who controls property prices?

Prices are controlled by supply and demand. But over time they tend to converge towards the cost of production, plus a small return. Otherwise profits of sellers are too high and competitors muscle in with lower prices.

But housing is not like other goods. Government controls both the supply and the demand. At least in the UK it does. In the US, states with less zoning and building restrictions didn’t experience the house price booms of those with restrictions. And they didn’t get as much of a bust either. Supply and demand just adjusted.

Here in the UK, restrictions are enormous. Supply and demand can’t respond to prices.

On the supply side you have government with its control over the supply of land and building types. The green belt around London is responsible for much of the unaffordability there.

On the demand side you have the central bank fiddling with the cost of borrowing. And everyone needs to borrow to buy a house.

Consequently, between the two, the housing market is in the grip of the government entirely. Any housing policy failure is a government failure. (Much like failure in the lending and banking industry, which means you should know who to blame for 2008.)

This morning my dad called. He’s worried the younger generations are going to get their own back for the world of unaffordable housing that their parents created. Baby boomers put their faith in the management skills of central bankers. Coming generations will do the opposite, creating a boom in non-financial assets and a crash in financial ones.

Being right is one thing, but timing is another, says Akhil Patel. He sees house prices as a purely cyclical phenomenon. In fact, both house prices and stockmarket prices are driven by the same cycle – the land price cycle. Understand that and you can predict everything.

This current upswing is far from done according to Akhil at Cycles, Trends and Forecasts.

The biggest boom of all time. By far.

I asked Akhil if he agrees that governments control house prices. Here’s his illuminating reply:


Simple question, complicated issue. Bear in mind we’re talking about land here. The cost of buildings sitting on land merely goes up and down with inflation and broader economic circumstances (eg, availability of labour, cost of raw materials, etc).

The government, via the planning system, has a significant say over land supply and its value, which is the capitalised rent earned on a site in its best permitted use.

If land is not made available for housing via the planning system then this restricts availability of sites and their price goes up. This feeds on itself because current owners of sites can hold them back in anticipation of further increases in the future.

The solution would be to amend the planning system to be more responsive to local needs and also to find a mechanism via the tax system to incentivise land owners to bring land to the market for development.

Governments are forever trying to tinker with the former but have nothing to say about the latter. And so we live in the constraints of the current system. But more broadly this dynamic drives the boom and bust cycle.

Economies exhibit a very regular pattern of boom and bust and this goes back to the late 18th century in the UK/US.

This cycle is fundamentally driven by speculation in land, fuelled by bank-created credit (money).

Why speculation in land? Land captures all of the gain of economic development (law of economic rent – well understood by all of the classical economists like James Mill, Adam Smith and David Ricardo. It’s been lost to modern economics. But the law of economic rent is to economics what the law of gravity is to physics.

This law makes land a unique vehicle for speculation (and collateral). The boom takes land prices unsustainably high, businesses and households get squeezed, and the whole thing comes crashing down, bringing the banking system with it.

The rhythm is an average of 18 years and has surprisingly little variation. The only things to have interrupted the cycle were the two world wars (which unsurprisingly stopped most or all speculative activity and therefore stopped the cycle from building).

The US leads Western economies into and out of every cycle. The stockmarket leads too, as it is forward-looking. That allows you to confirm the cycle’s turn in advance. Both up and down.

The current cycle is progressing like clockwork. Shaping up to be the biggest boom of all time. By far.

Akhil Patel
Cycles, Trends and Forecasts

You can try and poke holes in Akhil’s evidence yourself here. Because I can’t…

Until next time,

Nick Hubble
Capital & Conflict

Category: Economics

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