A personal view from Ian Stewart, Deloitte’s Chief Economist in the UK.

The UK economy has shown unexpected resilience in the face of rising interest rates and inflation. Agreed, the economy fell into a recession in the second half of last year, but so far, a very mild one. The high unemployment, financial stress and big company corporate failures that looked possible a couple of years ago have not materialised. The housing market has also held up, confounding expectations of sharply lower house prices.

The last time I wrote about house prices was in November 2022, in the aftermath of Kwasi Kwarteng’s ill-fated mini-budget. At that time I forecast a 15 per cent decline in house prices. Large though such a fall seemed, house prices had risen by 25 per cent in the previous three years and by 250 per cent since 2000. Against that backdrop, a 15 per cent decline seemed pretty modest. Still, my forecast proved too pessimistic. Between November 2022 and last autumn house prices fell by about 5 per cent, since when prices have started to edge up.

So how can we explain the resilience of house prices in the face of interest rates increases and stagnating activity?

The reversal of Kwarteng’s mini-budget by his successor, Jeremy Hunt, contributed to a sharp reduction in mortgage rates from late 2022. Most households have fixed-rate mortgages which, unlike the variable-rate deals that were the norm until the 2000s, delay and spread out the impact of rising interest rates on mortgage payments. So far only about half of the total impact of the increase in base rates from 0.15 per cent to today’s 5.25 per cent has fed through to mortgage payers. This has softened the impact of rate rises on the housing market.

More stringent regulation of mortgage lenders since the financial crisis means that they – and borrowers – are better placed to cope with higher mortgage rates. Mortgage terms, including loan-to-value ratio, have been tightened since 2009, with some products, including mortgages where no proof of income is required, have been banned. These measures have raised the quality of mortgage lending and kept mortgage arrears down. Low levels of housing repossessions speak to the resilience of the wider market and to the reluctance of lenders to repossess properties without having exhausted other options. 

An unusual feature of this cycle was that households entered the downturn with high levels of savings built up during the pandemic. Consumers have drawn down on these savings to support spending over the last 18 months. Unemployment has stayed lower than expected, while wage growth has proved stronger. Since the pandemic over 600,000 people of working age have left the labour market through early retirement and due to sickness and disability. This is a major loss of workers and one that has not been seen in other countries. Employers have also proved reluctant to shed labour, partly it seems, due to concerns that it may be hard to rehire in future. Reduced labour supply and unusually buoyant labour demand have helped keep unemployment low, indeed, in the second half of last year the unemployment rate fell even as growth ground to a halt.

The latest data suggest that UK housing activity is starting to stir. Chartered surveyors report more properties are coming onto the market, growing interest from new buyers and, since August, higher sales. The picture on prices is mixed. Halifax and Nationwide, whose data reflect mortgage approvals from their own customers, show UK house prices edging up since last October. Less timely data from the Land Registry, which covers all transactions, including cash purchases, suggest prices have fallen slightly since October. The Office for National Statistics, however, cautions that these data may well see material revisions.

As an aside, the decline in house prices that hit advanced economies may be drawing to a close. The Financial Times analysis of OECD data shows that across 37 industrialised OECD countries, house prices rose 2.1 per cent in the third quarter of 2023 compared with the previous three months, up from near stagnation at the start of last year.

The UK housing market faces two sets of opposing forces this year. On the one hand, unemployment is likely to drift higher and growth is set to remain weak in the coming months. The feed-through of higher interest rates to existing mortgages has further to run (although the burden is being spread; rather more mortgages are due to reset next year or later this year).

On the other hand, lower inflation is boosting consumer spending power, consumer confidence is off its lows and financial markets believe that the Bank of England will start cutting interest rates this summer. On the demand side, higher rents bolster the investment case for buy-to-let purchases (on one measure rental costs for those taking a new tenancy have risen by around one-third since 2020).

The balance of opinion among economists remains negative. Economists surveyed by the Treasury in February forecast an average decline in UK house prices of 1.5 per cent this year. I think this probably underestimates the positive forces at work and would expect low single-digit increases in house prices this year. I will avoid tempting fate by putting a number to it.

PS: While I am owning up to errors here’s another one. Last week’s Monday Briefing concluded by saying that investors’ appetite for investing overseas was alive and well and, in demonstration of this claim, I wrote that investors spent $1.3bn on foreign acquisitions and greenfield developments in 2023. My colleague Andrew Gray, a partner in our risk advisory practice, spotted the error. I was out by a factor of 1000. The correct figure for worldwide inward investment last year is $1.3tn.   

PPS: Recently, I joined Rt Hon Caroline Flint, former MP and a minister in the Blair-Brown Labour government, in a Deloitte Green Room podcast to discuss “Do elections change anything?”. You can listen to the episode here.

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