Help to Buy, the new mortgage guarantee scheme due to come in to effect next January, has faced a barrage of criticism recently. Pundits, from Bank of England Governor Sir Mervyn King and the IMF downwards, argue that the scheme risks pushing up prices and boosting lending to those who can’t afford it.
I think they are wrong on both counts.
Just in case you need a reminder about the scheme, you can find my earlier post on the subject here. Or take a look at the ‘infographic’ issued by the government earlier. But the key point is that the scheme will help prospective buyers to obtain a 95% mortgage.
Everyone agrees that this should increase demand for property. But critics assume that higher demand will push up price and increase lending to buyers who are less able to afford the repayments.
I don’t think those assumptions are right. Here’s why.
The supply response
Of course, higher demand without any change in supply would push prices higher. But an increase in the supply of homes for sale is likely to be a key feature of a recovery in the market. Given the drought in transactions since 2008, there are potentially thousands of home owners who aspire to move but who have not been able to sell or who have been reluctant to put their home on the market.
These are owners who will sell given the chance and any increase in demand will almost certainly be met by an increase in supply as sellers take the opportunity to move. These are not brand new homes, the overall stock of properties won’t change, but the greater choice available to buyers and increased competition between sellers is likely to put a cap on prices.
Even if that were not the case, prices are unlikely to be pushed higher by more demand – at least in areas outside the south east. Historically, surges in house prices have been preceded by a sharp improvement in affordability – usually a combination of lower prices and real income growth outpacing house price growth.
While there has been an improvement in affordability – at least in terms of mortgage costs – income growth for many has been non-existent or worse. Even if property remains more affordable than it was (a result of lower prices and lower interest rates), people need to be confident that their income is rising and is likely to rise further before they take on major new commitments. That is not true now and doesn’t look like happening any time soon.
The government is still working out the details of how the scheme will work, but it looks as if existing home owners will be able to use it to re-mortgage, although they will probably have to switch lender to do so. For the banks, that is a Godsend if they get it right.
If borrowers with minimal equity in their home can re-mortgage under the Help to Buy scheme, their new lender will have a government backed guarantee covering 15% of the loan value. That banks are going to love that, but it will also consum a significant amount of the funding available that would otherwise go to buyers and so helps to limit any increase in demand.
For all of those reasons, I suspect that the potential for Help to Buy to push up prices is limited.
But I suspect that part of the reason that critics are worried about rising house prices is that they are largely based in London. As the Office for National Statistics has just reported http://www.ons.gov.uk/ons/rel/hpi/house-price-index/march-2013/stb-march-2013.html prices in London rose by 7.6% over the last 12 months. In contrast, the ONS reports that prices in Scotland fell by 1.7% in Scotland over the same period.
You can see why pundits might conclude that Help to Buy will stoke further price increases in the Home Counties. But that misses the point; prices in these areas are rising even without Help to Buy. In other words, it is the state of the local economy that really determines prices. Any difference that Help to Buy will make is likely to be marginal compared to the larger forces at play here. If the South East went in to a sharp recession, not even Help to Buy would prevent a reversal in prices.
The second objection is that this encourages lending to people who can’t afford the loan.
Now, it seems unlikely that banks that were so badly hit by sub-prime mortgage lending will revert to the same lending practices that have caused them so much trouble recently. But even if they were inclined to go back to the bad old days, new regulations on how much capital they must hold to cover losses on potentially riskier loans means that doing so would be virtually impossible. In other words, you won’t get a 95% loan to value mortgage if you are a poor credit risk.
Moreover, mortgages have rarely been more affordable. According to the Halifax (select Housing and Mortgage Affordability data), average mortgage payments now account for around 28% of income. That is the lowest figure since 1999 and only just above its lowest point of 23.6% in 1996.
In short, if you can afford the deposit, the mortgage itself is relatively manageable. And that is likely to be the case for some time. No doubt interest rates will rise at some point, but the Bank of England is acutely aware that any increase in rates could deliver a huge economic shock and will make changes very gradually.
Why Help to Buy is right
Finally, I think it is worth making the positive case for Help to Buy. There is a good argument for saying that Help to Buy is right as a matter of principle.
It is right to open up home ownership to a wider group than the largely privileged set of buyers who have the deposits now required to obtain a mortgage.
In the last few years, the demand for large deposits has divided the population between those who, often with the support of relatives, can obtain a mortgage and those without. That risks creation a nation divided between owners and tenants. A nation where those with property can buy more, while those without are increasingly excluded from the market.
If Help to Buy can put that right, more power to it.
It would be more effective in achieving that if the price ceiling for properties that can be purchased under the scheme was reduced from its current £600,000 and if it was not available for re-mortgaging.