problem:
Dr Vincent Cable
( Twickenham) : Is not the brutal truth that with investment, exports and manufacturing output stagnating or falling, the
growth of the British economy is sustained by consumer spending pinned against record levels of personal debt, which is secured,
if at all, against house prices that the Bank of England describes as well above equilibrium level?
Mr Brown
: The Hon. Gentleman has been writing articles in the newspapers, as reflected in his contribution, that spread alarm, without
substance, about the state of the British economy…
A more heavyweight intervention than mine was the warning of the Governor of the Bank of England, who was especially concerned
about escalating housing prices. Although prices continued to increase for three more years, he failed, unaccountably, to
return to the subject. He was presumably persuaded that house prices (as opposed to inflation in goods and services) were
not his primary concern, or that the problem, if it existed, was manageable.
Those who were comfortable with the boom in house prices and debt argued that high levels of debt acquired through mortgages
didn’t really matter, because, unlike in the crash of the early 1990s, there were low interest rates and low unemployment.
But there are some simple fallacies in that argument which are now being uncovered in the reality of burgeoning orders for
house repossessions and growing numbers of households in arrears.
First, bank lending rates were indeed at a relatively low 7.5 per cent even at their peak in July 2007, as against 15 per
cent at the end of the boom in the late 1980s. But inflation was much lower too (2.5 per cent versus 10 per cent), so the
real cost of borrowing was much the same.
Second, the massive increase in house prices – and the willingness of the banks to lend – meant that the absolute size of
mortgage debt, and therefore debt servicing, grew substantially. The average size of a mortgage increased from £40,000 in
1999 to around £160,000 before the market crashed. The cost of servicing the debt therefore became even more onerous than
in the earlier periods of financial stress, despite lower interest rates. Debt servicing as a share of household income reached
20 per cent a year ago, higher than in the earlier peak year of 1991.
Third, even before unemployment rose alarmingly at the end of 2008, unemployment was not the only cause of breakdown in families’
ability to service debt – so were illness, pregnancy, short-time working, small variations in incomes, and redundancy due
to the constant churning of the labour market. Nor is there much by way of a safety net. After 1995 benefits no longer coveredmortgage payments for the first nine months out of work, after which time it is usually too late (though the government has
recently relaxed the conditions). Some households have tried to insure against temporary loss of income; but only one fifth
have done so, and the policies have been so expensive and so hedged around with exclusions that the competition authorities
have been moved to investigate the sharp practices involved.
The leverage of mortgage debt adds two new potent ingredients to the cocktail of problems created by a collapsing housing
market. One is negative equity. If prices were to fall by 30 per cent from the peak, an estimated 3–3.5 million households
would be at risk of having housing debts greater than the value of their property. That position has been reached in some
English towns and cities, although the average price fall, a year after the onset of the crisis, was around 20 per cent (with
much larger falls in commercial property). But in London – or at least the more affluent parts of it – there was little sign
of the major problems being experienced in the provinces. While negative equity is not a disaster for those people happy to
stay put, it necessarily reduces families’ wealth and their
Dr Vincent Cable
( Twickenham) : Is not the brutal truth that with investment, exports and manufacturing output stagnating or falling, the
growth of the British economy is sustained by consumer spending pinned against record levels of personal debt, which is secured,
if at all, against house prices that the Bank of England describes as well above equilibrium level?
Mr Brown
: The Hon. Gentleman has been writing articles in the newspapers, as reflected in his contribution, that spread alarm, without
substance, about the state of the British economy…
A more heavyweight intervention than mine was the warning of the Governor of the Bank of England, who was especially concerned
about escalating housing prices. Although prices continued to increase for three more years, he failed, unaccountably, to
return to the subject. He was presumably persuaded that house prices (as opposed to inflation in goods and services) were
not his primary concern, or that the problem, if it existed, was manageable.
Those who were comfortable with the boom in house prices and debt argued that high levels of debt acquired through mortgages
didn’t really matter, because, unlike in the crash of the early 1990s, there were low interest rates and low unemployment.
But there are some simple fallacies in that argument which are now being uncovered in the reality of burgeoning orders for
house repossessions and growing numbers of households in arrears.
First, bank lending rates were indeed at a relatively low 7.5 per cent even at their peak in July 2007, as against 15 per
cent at the end of the boom in the late 1980s. But inflation was much lower too (2.5 per cent versus 10 per cent), so the
real cost of borrowing was much the same.
Second, the massive increase in house prices – and the willingness of the banks to lend – meant that the absolute size of
mortgage debt, and therefore debt servicing, grew substantially. The average size of a mortgage increased from £40,000 in
1999 to around £160,000 before the market crashed. The cost of servicing the debt therefore became even more onerous than
in the earlier periods of financial stress, despite lower interest rates. Debt servicing as a share of household income reached
20 per cent a year ago, higher than in the earlier peak year of 1991.
Third, even before unemployment rose alarmingly at the end of 2008, unemployment was not the only cause of breakdown in families’
ability to service debt – so were illness, pregnancy, short-time working, small variations in incomes, and redundancy due
to the constant churning of the labour market. Nor is there much by way of a safety net. After 1995 benefits no longer coveredmortgage payments for the first nine months out of work, after which time it is usually too late (though the government has
recently relaxed the conditions). Some households have tried to insure against temporary loss of income; but only one fifth
have done so, and the policies have been so expensive and so hedged around with exclusions that the competition authorities
have been moved to investigate the sharp practices involved.
The leverage of mortgage debt adds two new potent ingredients to the cocktail of problems created by a collapsing housing
market. One is negative equity. If prices were to fall by 30 per cent from the peak, an estimated 3–3.5 million households
would be at risk of having housing debts greater than the value of their property. That position has been reached in some
English towns and cities, although the average price fall, a year after the onset of the crisis, was around 20 per cent (with
much larger falls in commercial property). But in London – or at least the more affluent parts of it – there was little sign
of the major problems being experienced in the provinces. While negative equity is not a disaster for those people happy to
stay put, it necessarily reduces families’ wealth and their
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