Flaw in the plan

In most housing market crashes, it is supply constraints that lead prices to bottom out and then start rising again. Unless people are required to move – change of job, family circumstances etc. – falling prices make them reluctant to sell. People who bought near the top of the market have a real economic motivation for not selling.

One factor driving up house prices was the easy availability of mortgages with a loan-to-value of 100 per cent or more. Anyone with a 100 per cent mortgage can no longer rely on resale to pay off the outstanding debt. With prices on the Nationwide index falling by more than 20 per cent between October 2007 and February 2009, the reluctance to sell has grown and increased the constraints on supply.

Moreover, changes in government policy since prices began tumbling suggest that it has tried to ratchet up supply constraint.

In 2007, government signalled its eagerness to prevent construction companies hoarding new-build sites to push up the price of developments. This was seen as a means of tackling affordability problems by addressing supply constraints, but the measure appears to have been shelved.

The 2008 Queen’s Speech announced Treasury plans for two-year mortgage interest holidays intended to keep people hit by the recession in their homes. The move was aimed at ensuring that people whose economic circumstances had worsened would not have to sell or downsize. But it would prevent houses coming on to the market.

More recently, there has been talk of the government entering the housing market directly to purchase private housing stock for it to be redesignated as social housing. Access problems would be partly alleviated in the social housing sector, but at the cost of removing supply from the owner-occupier sector and reinforcing affordability constraints.

So, why might the government have chosen to insert these price props into the housing market? Very simply, it has to do with reforming the welfare system – and the role private home ownership will play in delivering welfare services, alongside a firm intent to maintain the government’s electorally advantageous reputation for economic competence linked to house price rises.

‘The government has reimagined the ideal welfare citizen of the future as a person who is fully plugged into the need to become an asset owner’

The government has reimagined the ideal welfare citizen of the future as a person who is fully plugged into the need to become an asset owner. The idea is that capital gains from high-earning assets can be translated into welfare gains when those assets are sold in later life and turned into cash.

With such a system, the state no longer accepts responsibility for funding access to welfare as a right of citizenship. Instead, it creates financial conditions in which asset markets can flourish, so that individuals can grow their wealth and use it to fund welfare-enhancing expenditures in later life.

The goal of the reform is to facilitate increasing self-sufficiency in financing welfare, made necessary by the state retreat from pension provision. Individuals are required to come to terms with new, more restricted expectations about what the state will do for them.

The housing market is particularly important in this respect. Around two-fifths of the privately owned wealth in Britain is concentrated in residential property. For years, the housing market has outperformed every other asset market. Between 1967 and 2007, the price of the average house in Britain rose 50-fold, four times the general rate of inflation.

It is therefore easy to see why the introduction of an asset-based system of welfare has been routed largely through the housing market. However, it also means that the government’s welfare policy, with its dependence on continuously rising house prices, is vulnerable when the market collapses.

The move to an asset-based system of welfare relies on homeowners learning how to support government monetary policy.

And the increasingly tight link between house prices and future welfare entitlements changes is what is meant by a successful monetary policy.

Success is now judged according to budgetary balance – and expectations historically associated with buoyant house prices. The result is a process through which homeowners are reconstituted politically as monetary conservatives. They become personally responsible for the parameters of welfare policy.

To be effective, an asset-based welfare system must increase the number of people with assets to defend – people who will defend their assets by punishing parties whose policies do not translate into adequate wealth insurance.

In such circumstances, assumptions about economic competence are likely to follow assumptions about how strictly a party will enforce monetary conservatism. There is an important irony here.

Labour supplanted the Conservatives as the party of economic competence during the ERM crisis of the early 1990s. It retained its opinion poll lead until the publicly funded bailouts to distressed banks. For much of its first ten years, the government enjoyed handsome political gains from a policy of benign neglect in relation to house prices. It stepped back and let the price bubble do the work.

The decision it made was to be strategically inactive and not make preemptive hits on an overheating market. It is ironic, after losing its reputation for economic competence, that it is now attempting to use this policy to promote house price rises.

The government fears further house price falls because that would threaten the bank bailout package which has riddled the state with debt. The bailout has almost certainly stopped house prices falling further than the 20 per cent descent from the market peak in October 2007. The fact that the government is getting no credit for this action seems to confirm that it is stuck in a trap.

Matthew Watson is professor of international political economy at the University of Warwick.