24 October 2017

More borrowing won’t fix the housing crisis


You have to admire Sajid Javid’s approach to the housing part of his brief as Secretary of State for Communities and Local Government. He has thrown out dart after dart to see what will stick, previewing, leaking, and suggesting policies that later fall by the wayside as they prove unpopular.

He clearly understands the problem – expensive land due to inelastic housing supply – and is willing to do whatever is necessary to solve it. But borrowing to build is a step too far. As Jacob Rees-Mogg pointed out: housing is pricey thanks to a lack of land, not a lack of money.

The UK housing market is a mess. Prior to the Second World War getting permission to build or extend was easy — and you could build up to six stories by right, with no permission at all, in London. There were some rules, including rent controls, which held back building. But scrapping these in the 1930s led to the massive Edwardian building boom that helped rescue our economy from the Great Depression and cut housing costs in the most in-demand areas. It also made Neville Chamberlain, the housing minister of the time, a national hero. At least, until the war.

In the 1930s, when supply was free, land prices constituted only around 5 per cent of housing costs. But after 1947, when planning permission was nationalised, land has made up more and more of the price, as the economy recovered, society got richer, and the population grew both naturally and through immigration. Today land is about half the cost of a house, and in high-demand areas the proportion is higher. This is why a plot of land can be worth a hundred times more with planning permission.

This is not the sole explanation for house price movements. While physical structures don’t change much in value with financial market movements, land does. This is because land is very, very durable. When you buy it, you’re buying the right to a stream of services for as long as the UK stays a stable capitalist country. In practice some of these rights have lasted hundreds of years.

So the interest rate matters. Interest rate moves don’t typically change the value of the land’s returns 20 years in the future, but they do change the cost of borrowing to buy the rights. Recent house price rises have mainly been driven by a massive fall in where people expect interest rates to be over coming years — they are low and expected to stay low. For a given price people expect to pay lower interest on their mortgage so they can afford even higher prices.

But this only works if housing supply is inelastic. Yes, the supply of land is fixed. But we’re nowhere near those limits yet. Half of London lives in houses of only one or two storeys; many of these are set back far from the road. And we are surrounded by a gigantic green belt; 3.7 per cent of London’s green belt would be enough for one million homes at unambitious densities. At the density of Pimlico or Islington terraces there could be far more. These could all be within 10 mins walk of an existing train or tube station — and just like the overground extension to Barking Riverside, a clever Transport for London could use some of the profits from the development to fund upgrades and extra service.

If this is the stumbling block, then why is Javid suggesting a government borrowing binge? Well, maybe he’s run out of options. An early draft of a conference speech included a proposal to remove green belt protections, but he dropped the idea. He suggested letting people build up in terraces and mansion blocks, but this barely made it into his housing white paper either. As Rees-Mogg says, this spending is completely unnecessary economically and practically — but maybe it really is the only way to end the housing logjam we find ourselves in. Or maybe it’s just another housing dart that won’t end up finding a mark.

Ben Southwood is the Head of Research at the Adam Smith Institute