Impact of House Prices on the UK Economy

Impact of House Prices on the UK providenceWhat happens to mark outlays is perceived as being very primary(prenominal) for the wider UK thrift (at the moment the concern is that they may chance upon frostyly). Consider to what consummation hearthst single prices are important for the UK economy and how the government (or Bank of England) should do to a sharp take place in ingleside prices.IntroductionThe health of the residential property market is seen as a very important factor in the UK economy, and theatre prices have comen dramatically (though stragglingly around the country) mingled with 1996 and 2005. Some analysts argued that this was the result of a bubble in the house market, rather than due to purely economic reasons, while others argued that the rise in prices was a rational reaction to lofty employment, economic perceptual constancy and low interest drifts. The price rises slowed in 2005 and that led some analysts to express a sharp assume in prices. These fears proved unfounded, as renew growth since late 2005 has led most analysts to predict modest price rises in the medium term. However, many analysts remain concerned that housing prices may fall sharply in the near future.This essay forget maiden consider the different ways in which house prices in an economy relate to (and impact on) the performance of that economy more broadly, outlining in accompaniment the specificities of the UK housing market that make its prices especially important to the UK economy. It will then examine the policies the government (or Bank of England) could adopt in response to a sharp fall in house prices, assessing which of these would be the most appropriate. last(a)ly, it will as well as consider some longer term policies which could subordinate house price volatility and the impact of house prices on the wider UK economy.The relationship mingled with house prices and the wider economyThe most obvious way in which house prices a ffect the wider economy is through their impact on household uptake (Cameron 20054) a fall in house prices, for example, makes home owners feel less loaded so they feed to reduce consumption. Furthermore, a fall in house prices also reduces consumption indirectly by making it harder for people to borrow. recognize constraints are increased through two key channels (1) trim back house prices means homeowners have reduced collateral against which they can borrow, barely reducing consumption and (2) lending institutions make losses when housing prices fall, and so they reduce their lending or tighten their lending policies.According to Oswald (19992), an economys immanent rate of unemployment depends on the ease with which its citizens can move around to develop jobs. Fluid societies have efficient economies. High house prices and a relatively small private rental market make it more troublesome for people to move around to find jobs, and thus can give way to unemployment.H ouse prices can also have an indirect effect on the exchange rate, which is a particular concern because it may lead to a crash in house prices. High house prices contribute to high levels of household indebtedness which can be associated with increasing the current enumerate deficit. This, in turn, may suddenly trigger a correction in the exchange rate. If the exchange rate is weakened, a sharp rise in splashiness and interest rates may follow, leading to a sharp fall in house prices.House prices and the UK economyAccording to Cameron (20053), the high level of house ownership in the UK means that households are exposed to a considerable amount of luck (almost half a meg households had their homes repossessed in the 1990s). Not however are house prices more vaporific in the UK than elsewhere in the developed world, the impact of house prices on consumer spending is also especially heavy in the UK according to the OECD, a 1% fall in UK housing riches correlates with a 0.07% fall in consumer spending. The nature of the UK housing market (typically high loan to comfort ratios, few long-term fixed rate mortgages, and easy to re-mortgage) makes house prices particularly volatile and responsive to interest rates. Cameron (20053) explains that a one percentage point rise in the short-term real interest rate would reduce house prices over a five year period by 2.6% in the UK, 1.8% in the US, and 1.3% in Germany.The UK housing market is characterized not only by a high level of home ownership and typically high loan to value mortgage ratios, but also by an insufficient housing provision. Demand consistently outstrips tally and the market is not sufficiently responsive, primarily due to the limited land available for expression and the difficulties in obtaining planning permission for new buildings. Constrained housing supply leads to increasingly unaffordable housing, frustrating the home ownership aspirations of many individuals and families. It also leads to wealth redistribution from those outside the housing market to those inside it. Low housing supply reduces labour mobility, damaging the tractableness and performance of the UK economy and key universe services, and can also translate into wider macroeconomic instability. (HM Treasury 20059)Barker (20043) explains her popular opinion of the importance of the housing market to the UK economy more broadly excitability in the housing market, in the UK, combined with the strong association between house prices and private consumption (reflecting in part high levels of owner occupation) is striking. Consequently, the housing market has contributed to macroeconomic volatility, creating a more difficult surround for businesses and for economic policy makers.Responding to a sharp fall in house pricesIn order to resolve to a sharp fall in house prices, the main tool which the government or central margin has at its disposition is monetary policy. If there is a sharp fall in house p rices, consumption can be expected to strike down (as per the relationship between house prices and consumption outlined in the offshoot section of this essay) and there is a danger that a recession with ensue. In order to pr notwithstandingt this, the Monetary indemnity Committee of the Bank of England should suffice to any much(prenominal) fall by reducing interest rates, even though this may not be compatible with meeting their inflation target. This should help house prices to grow again, thus building up wealth and promoting consumption. Further, it will make credit more accessible which will also encourage consumption.Longer term policiesRather than being forced to respond to a sharp fall in house prices, the British government, or the Bank of England, would be better off developing longer-term strategies to prevent such a sharp fall in the first place that is to say, they should be proactive rather than reactive. Cameron (20054) argues that it may be possible to make th e UK housing market behave more like the US housing market (i.e. to make prices less responsive to interest rates and less volatile) if the piece of long-term fixed-rate mortgages could be increased (even when UK borrowers do take out fixed-rate mortgages, they tend to only fix the rate for three to five years).According to the OECD (20053), the risk of a sharp fall in house prices has been significantly reduced, and this has been achieved by longer term monetary strategies. If a relatively soft arrive in the housing market has indeed been achieved it owes much to the strategy of slack preemptive monetary tightening, in marked contrast to previous episodes when an unmannerly correction in house prices was triggered by sharp interest rate rises. Nevertheless, reforms are needed to make housing supply more plastic to damp future housing market cycles. Furthermore, Miles (200497) argues that in order for monetary policy to be most effective in stabilizing the before long volatile housing market, the UK mortgage facilities also need to be improved, and borrowers should be better informed.ConclusionBecause house ownership levels are high in the UK, and because houses represent most households biggest asset, house prices are particularly important to the UK economy. As it currently functions, the UK housing market is insufficiently flexible to respond to, and reflect, the ineluctably of the economy as a whole. Fortunately a drastic fall in house prices is unlikely in the near future. To prevent one in the medium to long term, the government should consider increasing the flexibility of the housing market. This could be achieved through relaxing planning regulations and adapting the mortgage market.ReferencesBarker, K. (2004) polish of Housing Supply Delivering Stability Securing our Future Housing Needs, Final Report Recommendations (downloaded from http//www.hm-treasury.gov.uk/media/053/C7/barker_review_execsum_91.pdf on 26 February 2007)Cameron, G. (2005) The UK Housing Market scotch palingenesis (downloaded from http//hicks.nuff.ox.ac.uk/users/cameron/papers/ukhousingmarket.pdf on 22 February 2007)HM Treasury (2005) Housing Policy An Overview (downloaded from http//www.hm-treasury.gov.uk/media/296/69/housing_policy190705.pdf on 26 February 2007)Miles, D. (2004) The UK Mortgage Market Taking a Longer-Term View, HMSO (downloaded from http//www.hm-treasury.gov.uk/media/80DDF/miles04_470.pdf on 22 February 2007)Muellbauer, J. Murphy, A. (1997) Booms and Busts in the UK Housing Market, The Economic Journal, Vol. 107, No. 445. (Nov., 1997), pp. 1701-1727OECD (2005) Economic Survey of the United Kingdom, 2005 (downloaded from http//www.oecd.org/dataoecd/18/34/35473312.pdf on 24 February 2007)Oswald, A. (1999) The Housing Market and Europes Unemployment A Non-Technical Paper, Warwick University (downloaded from www2.warwick.ac.uk/fac/soc/economics/ lag/faculty/oswald/homesnt.pdf on 27 February 2007)Wadhwani, S. (2002) Household Indebted ness, the Exchange Rate and Risks to the UK Economy, Bank of England speech delivered to the Macclesfield Chamber of Commerce on Monday, 25 edge 2002 (downloaded from https//164.109.43.50/publications/speeches/2002/speech166.pdf on 22 February 2007)