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Tuesday, September 22, 2020
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Home News Reader’s Comment of the Day: Cheap money drives up house prices

Reader’s Comment of the Day: Cheap money drives up house prices

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In response to Kathy Gyngell: Our housing crisis is driven by demand created by family fragmentation, CortexUK wrote: 

I can assure you that if interest rates started to rise back towards historical norms and/or the supply of money was restricted (e.g. the lending criteria tightened), the house price level would start to drop quickly even while demand (in the form of need) continued to grow relative to supply. Because demand (in the form of need) actually has a negligible effect on prices. Don’t believe me? Well, consider this…

In the 15 months from January 2008, the average house price in the UK fell by 20 per cent. That’s a big drop in such a short space of time. And yet, demand in the form of need continued to grow strongly relative to supply. What happened? Well, money became much more scarce and harder to access. And as anyone who has studied economics even for a short time will know, asset prices can be directly influenced by the amount or price of money available to pay for them. Throughout 2008, interest rates were cut. When they went below one per cent in the spring of 2009, house prices started rising again. Funny that.

And that’s not to mention the “investment mentality”. In a speculative bubble, many investors stop becoming rational actors. They may be willing to pay more that they would normally be prepared to do in order to obtain an asset if there is a perceived guarantee of high capital growth in the future.

In early 2008, the perception was that property might not be a sure investment bet in the future, so demand (in the form of imperative to buy/invest) was slashed. That also helped reduce prices. In 2009/10, when the outlook improved, the investment attraction rose again – and that also helped influence prices upwards.

Remember that demand in the form of need has no power or influence in the market unless it can be turned into purchase ability by money or assets.

 

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