All eyes are currently focused on the financial crisis in Ireland and the imminent bailout from the International Monetary Fund and the European Union.
The reality is that property market collapses have led to such catastrophic financial situations in several countries. In Ireland the collapse of the housing market, following a major property boom, led to huge losses for the country’s banks. House prices have collapsed by up to 60% with major social dislocations. Similarly, the collapse of the property market in Spain after a huge construction boom has led to an unemployment rate of 20%.
The worldwide credit crunch had as its genesis the losses incurred by US and UK banks in US sub-prime mortgage market with the consequent and uncertain exposure to risks and losses of financial institutions worldwide. We all know the consequences of that.
Why is it that housing seems to be the only purchase item where, if the price goes down, people say ‘oh dear’ or ‘how terrible’, whereas if the price of food, energy, transport, wine, foreign holidays or consumer goods goes down people usually say ‘great’?
In the UK we have had many property booms and busts, most recently in the early 1990s and the later part of this decade. After a frenzy of buying and escalating house prices, a property market collapse usually ensues. Over the previous years of the cycle many people will have made large financial gains from buying and selling houses but many who bought at the peak of the market suffered major financial losses and end up in negative equity and possibly bankruptcy, homelessness or both.
For the past 20 years I have always argued strongly that treating housing as an investment asset instead of being a purchase item essential for civilised life was a major disease of the UK and other Western countries. In choosing a house, many people would look at the financial gain they were likely to make, if they sold the house in a few years, and not its suitability as a place to live and raise a family.
I also remember cautioning people who had decided not to have a pension scheme (where the financial risks are spread by fund managers) but to put all their savings into property on the basis that it was ‘bound to make a good return’. I wonder where they are now. Of course, economic history shows us endless example of people believing that asset prices could only go up and not come down (for example, the South Sea bubble or the1929 crash).
If financial losses on housing were just an individual matter then we might not need to give it too much attention, since it is up to people how they invest their money and what risks they wish to take. However, it is not as simple as that and these booms and busts in housing have a number of major economic and social consequences some of which include:
- Many people and families have their properties repossessed and are made homeless
- In some parts of the country (e.g. London) there can be a shortage of appropriate housing while some property stock is kept vacant, since landlords are happy making capital gains without the bother of having tenants
- The rapid escalation in house prices in an area makes housing unaffordable to many people especially first-time buyers.
- Borrowers, encouraged by irresponsible financial institutions, take on completely unaffordable mortgages, in order to get on the housing ladder, and ending up in calamitous financial situations
- Investment funds applied to property purchases are diverted away from more productive forms of investment
- Perhaps most importantly the financial crises that have occurred in many countries have led directly to: collapsing economies, unemployment and major reductions in public services and infrastructure.
A couple of years ago, somebody said that the seeds of the next financial crisis are already being sown in the backrooms of banks and other financial institutions by people thinking up the next dodgy product range which can be sold to naïve people at a profit.. This may or may not be the case, but the question I would ask is whether now is the time to think about how we might avoid yet another housing market boom and bust with its dreadful consequences.
One approach might be by trying to apply restrictions as to how much banks can loan to potential house buyers. Somehow I suspect ways will be found around these bureaucratic constraints by a combination of people desperate to get their own house and financial institutions desperate to lend them money.
Instead, I would like to suggest that the government considers applying capital gains tax to all domestic property transactions including their first properties. Firstly, this would give a signal that housing should not be seen as an investment asset but a human right. Secondly, the tax would also reduce the attraction of housing as an investment by reducing the possible gains and, thirdly, raise additional funds for the Treasury.
In the past such a policy would have been seen as political suicide but it might be now possible in the current economic and political climate. Clearly, the details would have to be worked out in terms of rates of tax and exemption limits, but it is not a policy I would expect the current coalition government to be interested in. However, it is a policy which might resonate with the Labour opposition keen to create a platform for the next election whenever that might be.
Malcolm Prowle is professor of business performance at Nottingham Business School and a visiting professor at the Open University Business School. He can be contacted via his web page www.malcolmprowle.com
