Visions of Housing Policy II
In 1971 the post war policy of investment in a low cost rented sector was radically reformed by new financial structures, which transformed the rented sector into a rented consumer service. This section explains the financial basis of council housing and its use of investment to yield low cost-balanced rents. A model is used to illustrate the principle with evidence that the record of performance did match the model. Rents of the rented consumer service now equal the first year cost of a mortgage. The policy has failed to provide an alternative for affordable housing and has resulted in a huge rise in the level of risk that first time buyers are willing to take.
Public Investment in Housing
The Labour Party vision of housing policy used to be investment in council housing to achieve affordable low rents. It was a good vision, because the investment value of the stock, increased so much that by the end of the 1960's these affordable rents could be achieved at cost-balance and from then on could largely self-finance the expansion of the stock without further subsidy (see Colchester.)
In 1968, when housing benefit was negligible, the subsidy of £157 million (£2 billion at 2008 values) to 5 million council houses was already less per household than the £300 million tax subsidy to 7 million owner-occupiers and six times less in real terms than the current £12 billion in housing benefit rent subsidy.
Fig.1 The principle of using investment to yield low cost-balanced rents
Model parameters based on Year 2004
| Unit cost: | £150,000 | Loan Rate: | 7% | Loan period: | 25yrs | ||
| Target stock: | 20,000 | Building rate: | 400/yr | RPI: | 5% | ||
| Manag & maint: | 2% | Nat avg wage: | £500 |
Fig.1 shows a financial model of how investment can be used to yield low cost-balanced rents. After a period of time, cost-balanced rents fall within the affordable range of almost every household. The parameters are arbitrary and can be changed by downloading the model. However, by removing the subsidies to council house building in 1972, Mr Heath proved that the majority of non-city councils were able to maintain building programmes after only 27 years, a much shorter time than indicated by this example.
The success of that vision was that aspirations were raised, people moved on. Most children of council tenants became house owners. It was also a success because it kept house prices stable, low cost rents were a viable alternative when house prices rose and an economical refuge for those saving to buy. But the vision was damaged by lack of reform in the 1960s. Rather than opening up this low cost-balanced rented sector to supply the needs of a more wealthy and mobile population, it narrowed to serve the restricted needs of welfare housing. Mea maxima culpa. This was where the Labour Party completely lost its vision.
In truth, it was also damaged by the much-publicised problems of council housing within cities. For them, the cost of land for housing development was prohibitive. High-rise flats, built to solve the problem, were demolished because of bad architecture; Gladys Dimson of the GLC Housing Authority petitioned for the release of disused railway land for housing. (Truly, that would have been ribbon development). But these were the exceptional problems of cities, pressured by the commercial valuation of land. They required planning and local taxation decisions on the balance between commercial and domestic development within cities, beyond the scope of normal housing policy. Then as now there were reasons, much to do with logistics that caused us to lose sight of a wider vision of housing policy.
Promoting the Private Rented Market
Labour and Conservative governments competed to build more council houses in the early years, but as wealth increased, the subsidies became an argument for more restricted access and in the politics of local government; council housing estates came to be seen as Labour Strongholds.
From 1971, Conservative housing policy was dedicated to the revival of the private rented sector by means of policies that progressively diminished council housing and used its historic resources. When the removal of building subsidies and the imposition of "economic rents" in place of "cost-balanced rents" failed, the right to buy policy finally succeeded in the elimination of the low-cost rented sector. For the first time in 50 years, the private rented sector began to grow, but much too slowly to replace the loss of rented stock.
Subsidies no longer support building investment to yield low rents. Instead, they are dissipated by the high rents of a consumer service. Yet building rates have fallen. The market has not responded to need. The reasons are not difficult to explain. Spectacularly in the UK, we have a mismatch between the private rented and private buyers markets.
Home ownership and council-housing expanded together, to supply the different needs of the housing market. At the same time, the private rented sector failed to compete and it rapidly declined. By removing the investment principle, low rents have disappeared. The similar costs of a loan-to-buy and a private-rent, now places these two suppliers of housing-need into a mismatched competition.
Private Rent v A Mortgage
The price of an average house is £210,000. A relatively modest return of 7% on capital plus 2% maintenance and administration amounts to
Which is more expensive than
The repayment for a 25 year mortgage at 6%
In spite of small growth, due to the support of housing benefit, the private rented sector has failed to fill the gap left by the elimination of the low-cost rented sector. Private rents have risen to the level of first buying a mortgage. Even so, by commercial standards, the profits are relatively modest.
The low supply compared to demand proves either that, real demand is depressed by attempts to restrain housing benefit, or that the profits are not attractive enough to encourage a sufficient supply. More probably, it’s a combination of both, limits on housing benefit and not enough profit in the private rented market.
The Conservative policy to revive the private rented market has failed to provide an alternative for affordable housing. Within the UK profile of incomes and of housing and land costs, the Current Housing Policy has enforced structures of supply, which have failed to meet our housing needs. The huge rising cost of this failed policy, so far contained by the strength of the UK economy is now exposed to our economy weakened by the global credit crunch.
The Credit Crunch
Fig.2 Board of Governors of Federal Reserve System. Number 841 House Prices and Monetary Policy: Sept 2005.
Fig.3 Board of Governors of Federal Reserve System. Number 841 House Prices and Monetary Policy: Sept 2005.
Our visions of housing policy are more confused by the current crisis. The global credit crunch is the fault of reckless bankers. The banks have stopped lending so Housing is heavily affected, but it had nothing to do with the cause.
While often linked in the press, British and American Housing bear not the slightest resemblance to each other. American housing is big, it's cheap and land is no problem. Until this crunch, American house price inflation was low and stable. In the UK, average houses of half the size and ten percent more expensive than the US average, have been racked by grossly unstable price inflation for nearly 40 years. The current large fall in prices has happened before, several times, between the peaks and troughs of that instability. So solving the economic crisis is not directly related to our persistent housing problems.
The profiles of national wealth and the history of housing policy have much to do with the outcome of national housing. In the US, with very much lower cost for equivalent housing and with higher incomes, the problems of the 2% public housing sector raises little electoral concern. The present problem is a failure to control irresponsible banking in the new global computer economy.
In Europe, the comparison is more complex and varied, especially with the entry of eastern block countries into the EU. France and Germany, with similar or worse war damage to our own, followed our example of the Welfare State. And, like us, being bankrupt, they did it with the help of American loans (our repayments were completed in 2002). However, we employed the single agency of local government to create the council housing system, while they used a multitude of agencies, including Trade Unions, Churches, Charities and Government. The local government monopoly of the UK low-cost rented system made it easy for government to abolish it, while theirs remains a large sector of housing. Figs. 2 and 3 show that the UK house price instability since 1971 is exceptional. The previous stability of the US housing market might be explained by the relatively low Price/Income ratio, while the French/German comparison might be explained by the existence of large low-cost rented alternatives to house purchase.
Risk in the UK Housing Market
Our loss of the low-cost rented sector is the reason that unlike the US, France and Germany, peaks and troughs of this magnitude have been occurring in the UK house price market for nearly 40 years.
The increased risk, which leads young couples to gamble up to ten times their income (Channel 4 investigation) on a mortgage loan has not been solely due to easier lending; it is the absence of any alternative choice, which was a conscious act of government policy.
This measure was designed to revive the declining private rented sector, in the dogmatic belief that "the market would provide". Where choice exists, the market is very efficient. But the bare essentials of health and homes are not a choice; they are fundamental needs, which history shows the private market has always failed to adequately meet.
It all began in 1971, when Heath announced the doubling of council rents and switched government support from council housing to market rented Housing Associations. The first great peak in house price inflation was an entrepreneurial response to that announcement. It was an announcement to eliminate the low cost rented sector.
In spite of the withdrawal of subsidies in 1972, council housing survived because the previous investment in the stock supported the continuation of building programmes within balanced budgets. The economic instability, first triggered by Heath's announcement was followed by a large rise in general inflation and then inflation due to the oil crisis. But the huge peaks in house price inflation were now leading general inflation; one result was that council house rent rises were significantly neutralised and the private rented sector continued to shrink. It became apparent that the private rented market could not be revived without eliminating its dominating rival, low-cost council housing.
In 1979, Mrs Thatcher introduced the sale of council houses plus legislation to raise HA rents, which still lagged behind the level of deregulated private rents. The losses incurred by large (60-70%) discounts on the sale of council houses halted all new building and prevented replacement of the diminishing stock. The rump of council housing that remains serves only as welfare housing for the very poor and to save the exchequer from even larger housing benefit bills being paid into the private rented market.
The Dilemma of the Single Option
With no differential between rent and mortgage costs, there is no choice; there is only one option and therefore one question. How is it possible to buy?
The Dilemma of the Single Option
New households face the Dilemma of the Single Option. It is very difficult to save for a deposit while paying high rents, but when housing benefit is required to support a rent, it is impossible because extra earnings are penalised at 69p in the pound. In order to avoid this poverty trap, first time buyers are forced into seeking high-risk mortgages. Even worse, they are tempted to misrepresent their income in order to get onto the property ladder. This will not be changed by the solution of the current banking crisis unless the financial structures of housing policy are also abandoned and replaced by investment, which is allowed to mature into a low cost rented alternative to ownership.
Increased risk makes the capital market very nervous. The graph in Fig.4, shows the record of house price inflation and it is very clear that a watershed change took place in 1971. The fall in a single year following the war is easily discounting. Low price inflation in line with general inflation was suddenly replaced by persistently large fluctuations in 1971. These large fluctuations led general inflation and continued even when the economy became very stable. Without further evidence, a 'control systems' engineer would be convinced that the 'damping factor' of the system had changed i.e. a system property that made its output (prices) much more sensitive to changes of inputs (supply and demand). A similar effect is seen to happen to a man, who gets drunk and tries to drive a car; his reaction to changes in the road become exaggerated and erratic.
Yet in a search over many years, I have discovered no economic study into the effects of our 'loss of the low-cost rented sector', which spans the period before and after the watershed change of UK housing policy in 1971. Each new crisis of instability in the housing market has been a matter of great concern, but our economists have failed to provide us with any reasons.
'In the decision, taken earlier this year, not to join the Economic and Monetary Union for the time being, the structure of the UK housing market was identified as a key difference from the rest of Euro area. … the UK is probably more suited to monetary union than many of the countries that have already joined. However, housing market differences were the main reason why the convergence test was not met. The balance of the empirical evidence indicates that, as a result of housing, the UK economy is more sensitive to changes in interest rates than other major European economies.'
Regional Housing Supply Elasticities in England, Geoffrey Meen, October 2003.
The Dilemma of the Single Option is a driving force for new households to enter into contracts of high risk in order to achieve their objectives, which in the UK, long precedes the problems of the credit crunch. The prudent size of a loan, some 30-40 years ago was considered to be 2.5 times the buyer's income. Until very recently TV adverts offered loans at 5 times income and a few years ago Channel 4 TV revealed that some mortgage agents encourage misrepresentation to obtain loans at 10 times income. Why do first time buyers take such risks? The answer is that they must think it is worth it. They face this risk, because opportunities are determined by their successful escape from the divisions of the property-less poor.
Easy loans are often blamed for inflation in the housing market and sometimes, they are used by governments to encourage supply. So which comes first in this chicken and egg situation; easy loans or Risk driven by the dilemma of the single option? The persistence of instability, throughout many changes in the national economy, indicates that the second should be considered to be the most important.