Moving beyond averages and aggregates
Public and political recognition of the challenges facing UK housing has increased substantially in recent years. But too much analysis and policy still relies on simple averages and aggregates which often ignore or cloud the effects of underlying complexities.
These complexities include income distributions, age cohorts, and spatial variation all of which are important ingredients to consider if we are intent on fixing problems in housing, as two of Geoff Meen’s recent papers on housing affordability highlight.
The first paper highlights the challenges in accurately measuring affordability. The barriers facing prospective first-time buyers are well documented, but much analysis relies on simple house-price-to-earnings/income or debt-servicing ratios. Simple house-price-to-income ratios have some value but don’t tell us anything near the whole story. They have no regard for interest rates and fail to distinguish between the cost of buying and the cost of owning.
So, while debt servicing ratios only tell us about the cost of owning, it is the cost of buying that is currently the biggest barrier to prospective first-time buyers. This is thanks, in a large part, to the high cost and low availability of higher loan-to-value mortgage products. For those lucky enough to have access to a deposit, typically thanks to the bank of mum and dad, the current cost of owning is very affordable.
For renting much analysis relies on simple rental-affordability ratios that don’t account for the type of household and the home that is being rented. In areas where home-ownership is still high, renters are far less likely to be drawn from among the average earners or average households.
The second paper looks at what policies could improve affordability. It reminds us that the most important factor in high house prices is interest rates (i.e. the link between low interest rates and high house prices) and new supply will only have a small impact on prices over the long term.
The government’s housing policy is primarily focused on increasing supply. This is unfortunate because increasing new supply is unlikely to substantially improve house-price affordability on its own.
Instead of simply focussing on new supply, housing policy should also act on the demand side of the market. This may be politically more difficult given the large number of existing home-owners but is essential if policy is to make significant and permanent improvements to house-price affordability. Indeed, perhaps one of the more effective policies in recent years has been the changes to stamp duty land tax. Lower or no tax paid by first-time buyers and an additional 3% payable by investors has helped shift the balance of buying power towards first-time buyers everywhere except London*.
This is not to say that increasing new supply is not important. It is. And while it may not improve affordability on its own, it is an essential part of the solution.
Here too regarding the need for supply there are also issues relating to an overreliance on averages and aggregates, and the government’s current approach to calculating housing need relies on them far too much.
There are numerous problems with household projections, not least their circularity. Therefore, the introduction of ‘market signals’ is welcome. Unfortunately, the use of simple price-to-earnings ratios and a policy focus on only those areas with the highest ratio is likely to prove misguided.
Affordability is undoubtedly more stretched in the south of England, but there are still affordability pressures in areas with the lowest price-to-earnings ratios. The first of Geoff Meen’s papers proposes two new measures of affordability that refer to the income distribution, one for renters and one for prospective first-time buyers.
The proposed measure for prospective first-time buyer affordability, unsurprisingly, shows access to home-ownership is extremely constrained in the South East region. It finds that… “a renting household with an income at the sixth decile could not afford to purchase a property at any point in the property price distribution without paying more than 30% of its income in housing costs”.
However, in the North East of England, an area with much lower house prices and lower price-to-earnings ratios, the analysis still shows that… “30% of renters could not afford a property at the lowest price decile”. The relative scale of the affordability barrier may be lower than in the south, but is still significant, with many people excluded from their preferred housing tenure.
The two papers show that housing policy needs to move beyond the usual simple average and aggregate measures and that an approach simply focused on supply will have a limited effect on improving affordability.
This is important because the longer policy remains ineffective, the longer housing will remain unavailable, unaffordable, and inappropriate for everyone that needs it.
*The challenge in London is that house prices are so unaffordable that only those with a substantial deposit can afford to be first-time buyers. As they’ve been unable to replace the investors withdrawing from the market, prices have stagnated with falling turnover.
Views expressed by the author may not represent the views of CaCHE.
Neal Hudson is Director Residential Analysts Limited.
Date: September 4, 2018 12:22 pm
Author(s): Neal Hudson
Categorised in: Economy