House Prices, Rents, Too Supply

In a previous post I argued that high trouble solid prices, inwards the UK together with peradventure elsewhere, could but reverberate lower expected long term involvement rates. This had around people puzzled, because it appeared to ignore render together with demand. Surely it is higher need combined amongst inelastic render (supply that is insensitive to changes inwards prices) which is to blame for high trouble solid prices? This brusk postal service clarifies how both views tin live right at the same time. I besides heighten a inquiry almost housing wealth together with inequality at the end.

The easiest way to recollect almost this, at to the lowest degree for me, is to imagine no i owned their ain home. Everyone rents, together with houses are owned past times landlords. Rents stand upwards for the toll of ‘housing services’, which is the catamenia of benefits nosotros instruct past times having a roof over our head. If nosotros calculate these rents inwards existent terms, nosotros accept the relative toll of housing services compared to other goods. Real rents volition reverberate the render together with need for these housing services. If nosotros all all of a precipitous decided nosotros wanted to rent a trouble solid inwards the countryside every bit good every bit our trouble solid inwards the metropolis (or vice versa), together with if the render of houses did non increase, rents would rising dramatically until plenty of us thought that maybe this wasn’t such a skilful thought afterward all.

Suppose existent involvement rates fall, but the render of housing is fixed. There is no detail ground why lower existent involvement rates should alter the need for housing services relative to other goods. Then amongst no alter inwards need or supply, rents hit non alter inwards existent terms. But trouble solid prices will, because they are - to purpose a chip of jargon - the acquaint discounted value of futurity rents, where the discount charge per unit of measurement is the existent involvement rate. This is a shorthand way of proverb that lower involvement rates hateful that investments inwards fiscal assets yield lower returns than the same amount invested inwards housing, together with hence investors volition desire to ain houses rather than fiscal assets. This pushes upwards trouble solid prices until the charge per unit of measurement of render on both types of property are equalised.

That assumes housing render is inelastic, which is a reasonable supposition inwards the brusk term. However suppose past times around way (economic or political) these higher trouble solid prices generated an increment inwards the render of houses to rent. If the need for housing services is unchanged, greater render volition begin to force downward rents. Falling rents force downward the yield from owning housing assets. As a result, housing becomes less attractive every bit an asset, together with prices start to fall.

So if housing render was real elastic, permanently lower existent involvement rates take away non atomic number 82 to higher trouble solid prices inwards the long run. Instead, they could create much lower rents, because a lot to a greater extent than houses instruct built. Such an effect seems unlikely inwards a solid ground similar the UK, but it could tumble out inwards a solid ground similar the US where at that topographic point is plenty of solid ground available to create on. This is i possible ground for the different trends inwards trouble solid prices inwards different countries that I commented on inwards my previous post.

So my master postal service was sure non suggesting that increasing housing render would accept no touching on prices. What it was suggesting was that inwards evaluating whether electrical current prices stand upwards for a bubble, nosotros take away to let for the possibility that high prices today reverberate a stance that existent involvement rates may remain depression for around time.

If involvement rates hit remain depression for around time, together with this does continue trouble solid prices high, an interesting inquiry is why this matters. Take the representative where everyone rents. Rents are unchanged, together with hence those renting are no worse off. Landlords seem richer, but their futurity income inwards existent terms has non changed. If people ain their ain houses, their houses accept non all of a precipitous got bigger or better. This is related to, but is non quite the same as, a inquiry latterly raised past times Chris Dillow. It is different because it potentially applies to anyone who owns assets that instruct to a greater extent than valuable but because involvement rates fall, together with non because the futurity incomes they generate increase. It is the same number that is raised when around complain that Quantitative Easing, past times - tell - raising percentage prices, is benefiting the rich. I recollect this alter inwards wealth does matter, every bit this evidence suggests, together with I promise to explore the reasons why inwards a futurity post.