Housing market: Second wind

Date: 06/09/03

Signs of revival in the housing market

THE state of the housing market is certain to have featured large in the Bank of England's monthly meeting to determine interest rates this week. Interest rates were held at their 48-year low of 3.5%, but this may not last for long if recent signs of a stronger housing market persist.

Until recently, house-price inflation appeared to be coming down appreciably from the peak of around 25% at the end of last year. In August, the Land Registry said that prices rose by just 12.5% in the year to the second quarter. But this week, the Halifax house-price index reported a rise of 1.3% in August, leaving prices 19% higher than a year before.

On the face of it, the Land Registry is the most authoritative source. It covers all property transactions in England and Wales. Using the final agreed prices, it works out the average price of all homes sold every three months. But it has two flaws as an indicator of house-price changes. First, it is out of date when published. Second, its measure of the average house price reflects the mix of transactions as well as their prices. If demand weakens at the top end of the market, the average price will appear to fall even though this is caused purely by the shift in the composition of sales. The Land Registry's lower rate of inflation partly reflects the fact that the slowdown in activity has been most pronounced in London and the south-east, where properties are dearest.

The house-price measures compiled by the Halifax bank and the Nationwide building society are designed to avoid distortions caused by variation in the type of property being sold. They do this by estimating the prices of the main characteristics of a house, such as whether it is detached or terraced. These are combined to work out the price of a composite standard house bought by a typical homebuyer.

If house prices in general are moving in line with the price of a typical house, this approach gives a good guide to changes in housing wealth, which is what matters for the Bank of England as it assesses the economy. But when price trends for cheaper and more expensive houses diverge, the effect of the mortgage lenders' method is to give the same weight to each type of property. This matters if, as now, house-price inflation has rippled out of London to the north where property is much cheaper. If price rises outside the south-east were instead weighted by the lower values of properties in northern regions, overall inflation would be lower than the rate shown by the two lenders.

An index produced by the Office of the Deputy Prime Minister (ODPM) which uses this value-weighted approach shows a sharper deceleration in house-price inflation this spring. According to this measure, house prices rose by 17% in the year to the second quarter, compared with increases of 21-22% shown by the mortgage lenders. The snag with this index is that it is out of date because the ODPM, like the Land Registry, compiles the figures on a quarterly basis. This will change on September 15th when the index will be published every month, starting with house prices in July.

Even if the ODPM does show lower inflation over the summer, the worry is that the housing market has got second wind. The number of loans approved in July for house purchase was the highest since November. More borrowing figures like that and the only question will be when the Bank's monetary policy committee decides to push interest rates up again.