The Bank of England's capital problem

Houses The Bank could make it more expensive for UK banks to lend large mortgages

To state the bleedin' obvious, it's bloomin' marvellous that the economy is growing again, blah blah blah.

But stats out this morning show there is still some way to go before we can be confident that the recovery is entrenched, or that it is yielding significant benefits for the vast majority.

So, for example, although we learned last week that in March - on the official figures - prices rose slower than earnings, and thus that living standards might at last be improving for the first time in five years, that gorgeous trend looks to have been (ahem) short lived.

Because in April, inflation blipped up from 1.6% to 1.8% - which compares with March's increase in total pay of 1.7%, and a rise in pay-minus-bonuses of just 1.3%.

So, to tell you what you have already worked out, we are not getting richer, as individuals, at any great rate of knots, and we may in fact still be getting (a bit) poorer.


Unless that is we are lucky enough to live in London and own a house (and here I need to declare an interest, because - oh yes - I live in London and own a house).

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There are two other regions [apart from London] where prices are above the pre-crisis peak: the south east of England, which is now 3.4% above the ante-deluge high, and the east, where the rise has been 3.1%”

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Here is the big thing: according to the Office for National Statistics, London properties are now worth a staggering 25% more than their pre-Crash peak in January 2008.

Which of course gives me - and other members of the London property owning plutocracy - a lovely warm feeling. Except that it is a semi-meaningless rise in price, in that I can't take the money and run, because I have to live here (curses).

And just to rub it in for the rest of you, there is no other part of the United Kingdom where price rises have been anything like as strong.

Localised boom

There are two other regions where prices are above the pre-crisis peak: the south east of England, which is now 3.4% above the ante-deluge high, and the east, where the rise has been 3.1%.

Nowhere else in the UK have prices returned to where they were.

Here is another way at looking at the huge regional disparities in the housing market: London prices rose 17% in the year to March, they rose 5.3% in Yorkshire and Humberside, but only 0.8% in Scotland and 0.3% in Northern Ireland.

So if there is a dangerous boom it is pretty localised, on London - and, to a much lesser extent, the South East in general (prices in the South East rose 6.1%).

Is it such a bad thing that the London property market is red hot?

Well there are a few reasons why it might well be a very bad thing.

First, it means - as the Bank of England has pointed out - that when properties are being bought with debt, with mortgages, the loans are likely to be a huge multiple of the earnings of the buyer.

According to ONS figures, a typical London property is priced at £459,000 and a typical London wage is about £35,000. Which means houses are selling for 13 times typical or median earnings.

Or to put it another way, they are only affordable - if bought with debt - at current historically low rates of interest.


If interest rates were to rise, new property owners might find they could not afford to keep up the payments. And banks that have made these high-loan-to-earnings loans might find they were facing a rash of bad debts and losses.

Second, there is and will be contagion from a red hot London market to the rest of the country. An unaddressed bubble in London will pump up bubbles in adjacent regions, as buyers feel compelled to look for value and affordability elsewhere.

And to be clear, even outside London, the ratio of prices to earnings is high by historical standards: the latest ratio of of national house prices to average (not median) earnings, excluding bonuses, is 10.8 - which is, of course, distorted by the London bubble, but gives you an idea that houses are not exactly cheap-as-chips anywhere.

So if we look at the next hottest market, the South East, and we compare prices with median or typical earnings just in that region, the ratio is a disturbing 11.

In other words, the risk of boom and bust is not focussed just on London.

Third, this is not just about the risk of financial pain for over-stretched homeowners and reckless lending banks.

Build more!

There is also a social cohesion point: London and the South East as a place where only hedge fund managers, investment bankers, Russian oligarchs, Middle East hydrocarbon sheikhs and vainglorious media folk can dwell does not sound like a country fit for heroes.

So what's to be done?

Well the governor pointed out what more-or-less everyone in the UK has known for years, which is that house prices will remain inflationary, unless and until a way is found to increase the supply of new accommodation, either through building more or making it easier to release empty offices and shops for residential use.

But turning on the tap of new homes can't and won't happen rapidly - even if the government is up for it.

That said, the Bank of England has some ability to take some of the heat out of the market, even without putting up interest rates - in that it now has a Financial Policy Committee, that sits alongside the Monetary Policy Committee, which has the power to rein in banks when they are perceived to be lending in a way that could be dangerous and destabilising.

Help to Buy

So at next month's FPC meeting, it would not be a great surprise if the FPC announced that it would make it more expensive for banks to provide loans that are a relatively high multiple of earnings, by increasing the capital charge for such mortgages.

That would mean banks would have to hold more capital relative to such loans, and that would be costly for them, so such loans would become scarcer and pricier for customers.

The FPC might also suggest that the government halve the value of houses, from £600,000 to circa £300,000, that are eligible for the public-sector subsidy under the Help to Buy scheme - which is supposed to help first-time buyers in the pre-owned dwellings market.

However, that would mean bringing forward the official timetable for the Bank of England's review of Help to Buy.

In other words, the Bank of England is not a bystander.

But there are two important caveats here.

First, these powers to curb banks' lending are brand new, and untested. We just don't know how effective they will be.

Second, much of the fuel in the London market is from cash buyers. And the Bank of England has no ability to prevent those buying with their own wonga, rather than debt, paying silly prices.

Which is probably why, whenever I talk to the folk at the Bank of England, they don't exude huge confidence that they can prevent London and the South East from continuing to party until there is the mother of all hangovers.

Robert Peston Article written by Robert Peston Robert Peston Economics editor

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  • rate this

    Comment number 122.

    What is it don't people understand about the fact that the planet is overpopulated cannot sustain 50% of our current numbers nor replenish 50% of the resources we are currently devouring.

    There would be no housing or any other crisis if you can get your head round this.

  • rate this

    Comment number 121.

    110. Old Mr Boston

    I think you are right except it is said that people spend more when their house goes up in value. But I think that others spend less while they pay higher rent, or mortgage or save for a higher deposit.

    Capitalism is unnatural and there can never, never be such a thing as a free market.

  • rate this

    Comment number 120.

    We need a full and thorough investigation into the mortgage market in London and South East, I would like to see how many houses are actually bought with cash in London, and of those houses bought with mortgages what are the income multiples. How are these excessively risky loans being obtained considering the carnage this practice reaped on the rest of the economy only a couple of years ago!

  • rate this

    Comment number 119.

    My four step plan to sorting out the housing mess:

    1. Stop
    2. Letting
    3. Immigrants
    4. In

  • rate this

    Comment number 118.

    "the Bank of England has some ability to take some of the heat out of the market."

    Only by stoking rents. The simple truth is that more and more people are competing, whether buying or renting, for a virtually static supply of accommodation. Each and every Bank attempt to reduce demand for purchase just shunts the demand into rental. You solve the capacity problem by building, not by banking.

  • rate this

    Comment number 117.

    This government (which always accuses Labour of being negligent and reckless with regard to the economy) has been even more reckless and negligent by introducing the 'Help to Buy' scheme.

  • rate this

    Comment number 116.

    Funny how this government professes to hate the state when it comes to doing anything useful, but is prepared to let the state subsidise risky loans. Oh well, as long as Osborne gets his 'nice little property boom' for the election.

  • rate this

    Comment number 115.

    Bar shooting people or people accepting the fact that THE most pressing issue facing humanity is overpopulation & that the issues we face are only going to accelerate.

    The planet cannot sustain 50% of our current numbers nor replenish 50% of the resources we are currently devouring.

    This is now having serious and fatal consequences.
    One answer is to have less children and/or to adopt.

  • rate this

    Comment number 114.

    One in ten of today's mortgagors risk being imprisoned by borrowing deals which are likely to make their repayments unaffordable as interest rates rise over the next four years

  • rate this

    Comment number 113.

    111 RBNF
    "How is this to be achieved if financing .... is to be curtailed?"

    Exactly, the only way is for more social / council housing to be built - paid for directly by govt/councils.

  • rate this

    Comment number 112.

    Market Capitalism works! If some bunch of plonkers does not obstruct is functioning!

    Plainly Market Capitalism is not functioning. The solution can only therefore be to stop the bunch of fools from obstructing its functioning.

    Clear out the augean stables of HM Treasury and their puppets the Bank of England. (as well as the US versions). They broke the system and the have to go.

    Rates = Risk!

  • rate this

    Comment number 111.

    Last week the media theme is UK is not building enough houses.

    How is this to be achieved if financing to potential purchasers including first time buyers is to be curtailed?

  • rate this

    Comment number 110.

    No great disagreement with Robert's analysis. I'd just point out that taking on a mortgage at a high multiple of earnings means that there is little left over to spend on other things. It is spending on other things that drives the economy.
    Thus, high house prices=bad news.

  • rate this

    Comment number 109.

    Can't we just cut off London, let it be a city state like Singapore?

    Then the rest of England can limit immigration, legislate for a living wage and have politicians take north of the M25 seriously.

    London can then do whatever its masters want and condemn 99% of its inhabitants into semi-slavery in the cesspit it is.

  • rate this

    Comment number 108.

    The price of houses is a variable due to land price, not the cost of building which is fairly constant @1K/sqM. It follows that it is reasonably simple to pull the cost of houses down, you make more land available, & if speculators will not release land banks guvnt can comp purchase. Wind farms etc are put thru on national need basis. No political motivation to surpress house prices in reality

  • rate this

    Comment number 107.

    This article seems to ignore the fact that there has been unprecedented overseas bying of london property for cash by high net worth individuals from China, Russia, the middle East, etc for investment

  • rate this

    Comment number 106.

    If interest rates were to rise then those in London/SE would suffer most with their eye-watering mortgages.

    So we will see end of Help to Buy, building of new 'Garden cities', stricter lending criteria, even change of planning laws to enable conversion of offices into residential...

    ..anything but what is actually needed, the BofE to raise interest rates, because of who it would affect.

  • rate this

    Comment number 105.

    Robert, you don't have to live in London. Sell your house, move up North and work from Media City meanwhile taking a handsome profit. Don't see why as a licence fee payer I should also pay the London Tax to keep you in a job.

  • rate this

    Comment number 104.

    Lloyds adopt petty inadequate lending restrictions in London. That will restrain no one. Political and finance still living in an unreal world.

  • rate this

    Comment number 103.

    Venture to suggest that this a problem that no Political Party would touch with a bargepole.
    Just ignore the problem.


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