“Help to Buy” & the end of rebalancing
The economic rationale for designing a mortgage market intervention in this way is almost impossible to understand. There are well-known market failures in both the retail and wholesale markets for mortgages, so there’s plenty of scope for radical reform. But, instead of explaining what problem it is trying to solve and how, the Treasury has created yet another subsidy for banks. Worse still, the structure of the subsidy will weaken competition even further by propping up incumbent banks and perpetuating an unreconstructed housing finance market with fundamental weaknesses.
What about housebuyers? To the extent that they see any benefits, it will push up demand and hence prices, resulting in further distortions in an already distorted market. This will redistribute wealth from the poor to the rich and from those who don’t own houses to those who do. It will neither build any new houses nor make existing ones more “affordable” in any meaningful sense.
My own initial take was that this could only be understood as part of a move towards abandoning any attempt at economic rebalancing (at least in the near term) in favour of returning to the old model of asset price and consumer spending led growth.
Today’s money and credit data from the Bank of England paint a worrying picture. Mortgage lending grew by almost £1bn last month (down on the previous month but still expanding) whilst lending to non-financial firms continued to contract.
All of which makes a recent paper from Cox Business School in Dallas all the more timely (brought to my attention by Cormac Hollingsworth on Twitter). The paper looks at the US experience over the past two decades and concludes that rising house prices are associated with declining commercial lending and lower firm investment.
As house prices rise, banks choose to allocate more of their lending to housing finance and less to other areas – including business lending. As the authors conclude:
We find that from 1990–2006, a period of strong appreciation and booms in many housing markets, rising housing prices have some negative effects on firm investment. The channel at work is the bank’s choice of capital allocation. We find in areas with high housing appreciation, banks increase the amount of mortgage lending and decrease the amount of commercial lending as a fraction of their total assets. This allocation results in firms receiving reduced loan amounts, paying higher interest rates, maintaining lower leverage ratios, and reducing investment. If anything, firms should have more, instead of fewer, investment opportunities in the face strong housing returns and economic growth. The strong negative effect of housing returns on investment suggests that reduced debt capital supply from banks is the primary reason for lower leverage and investment, and not a reduction in the firm’s demand for capital.
In a passage that could almost be directed at the Chancellor, they argue that:
Policymakers have argued for the need to support important asset markets, such as housing, with the intent of increasing consumer wealth, consumer demand, and real economic activity… Such intervention may very well increase consumer wealth and consumer demand; however, if the banks are interested in reaping the returns in these supported markets at the expense of commercial lending, firms may be unable to increase investment and real activity in response to that demand.
In other words it may well be the case that ‘Help to Buy’ actively sets back attempts to rebalance the economy – it may encourage more mortgage lending and push up house prices, this may then encourage the banks to redirect yet more of their lending towards the strengthening housing market at the expense of non-financial firms with potentially serious implications for business investment.
“Help to Buy”, in its current form, looks increasingly to be a dangerous and misguided policy.
*Actually given that the likely impact of this policy will be to push up prices, I am inclined to refer to it as the ‘Making Harder to Buy’ scheme.