Financial Times Editorial - Hard edge of a soft landing for housing

Financial Times Editorial - Hard edge of a soft landing for housing
Copyright The Financial Times Limited 2006
Published: August 19 2006 03:00 | Last updated: August 19 2006 03:00


The world's leading economies have long been given extra impetus by an extraordinary boom in the price of houses. That boom now seems to be coming to an end, but exactly what happens next and what the effect will be on the world's economy is not clear; the risks, however, are substantial.

The size of the boom is hard to dispute. According to the Organisation for Economic Co-operation and Development, house prices have been enjoying their longest upswing since the 1970s. Leaving aside the long-lasting slumps in Japan and Germany, real house price growth in the OECD averaged5 per cent between 1995 and 2000, then accelerated to 6.6 per cent between 2000 and 2005. In the UK, France and New Zealand real house price growth hit nearly 10 per cent between 2000 and 2005, a huge increase over a sustained period. US real house prices increased by an average of 6.4 per cent between 2000 and 2005. Several countries now enjoy record house prices by reasonable measures, and the boom is highly synchronised by historical standards.

Such dizzy heights are not necessarily a pure bubble. House prices have tended to outpace consumer price inflation in the long run, fuelled by a combination of increasing wealth, finite land and, often, planning restrictions. They have also been boosted by low real interest rates and by low nominal rates, too, which spread the repayment burden more smoothly and so make houses easier to afford.

A report by the OECD at the end of 2005 concluded that a peak in house prices for most countries was unlikely before prices had risen further, and unless interest rates also rose by a percentage point or two. Yet both prices and rates have indeed risen. Now several markets have shown signs of weakness, and the implications may be stark even without a serious slump.

Naturally, attention is most closely focused on the US market, particularly following the Federal Reserve's decision last week not to raise interest rates after 17 successive rises. That market now looks feeble. New single family home sales are 11 per cent lower year on year, while house prices are now barely rising. The stock of unsold houses relative to turnover has also jumped, the number of new building permits issued has been falling since February and builders are concerned about business conditions.

What makes prices so imponderable is that they are bound up in the animal spirits of everyday punters. Prices can be pushed higher simply by the expectation that that is where they should go, as buyers scramble to buy what they cannot afford using ever more innovative mortgage products, while sellers hold on to property and sell only with a view to buying something even bigger. A slowdown in these red-hot markets is inevitable. It may be gentle, but it is impossible to rule out a collapse of sentiment and of prices.

Even a soft landing would mean a prolonged period of stagnant nominal prices. Prolonged weakness in the housing market has characterised the struggling Japanese and German economies, which is hardly encouraging. The trouble is that greater housing wealth has encouraged consumers to borrow and spend. If housing wealth stops rising, even if it does not fall, consumer spending, the engine of economic growth in the short term, is likely to stall too. Australia and Britain have both seen this pattern already. If the US consumer were to give up and go home, the effect on the world's economy could be depressing indeed.