Over the last 35 years, two housing bubble-busts in the UK have occurred, both resulting in deep and prolonged recessions. The first occurred during the mid to late 1980s and the second during the 2000s. According to the studies of Scott (1996), Dolphin and Griffith (2011), Kuenzel and Bjornbak (2008) and Fraser (1993), the 1980s bubble lasted for four years, from 1986 to 1989, while the period between 2001/2 and 2007 is seen by many as a classic example of what we call a housing bubble (Rapp 2009, Clark et al. 2010, Dolphin and Griffith 2011, Kuenzel and Bjornbak 2008).
6.1.1 1986-1989 UK property bubble
During the 1980s, strong deregulation initiatives were implemented in the United Kingdom’s domestic financial markets. The result was to ‘‘encourage’’ competition between financial institutions and to encourage banking expansion (Bayoumi 1993, Reitan 2003). The economic backdrop between 1982 and 1986 saw low inflation and steady growth of the UK economy, together with rising confidence (Fraser 1993). At that time, investor confidence in the UK real estate market was high (Balchin et al. 1995). A real boom in London’s real estate market began and thereafter literally spread out like a ‘‘ripple’’ (Fraser 1993). Between 1983 and 1987, house prices grew at an average level of 12% per annum. During the ‘‘hot years’’ from 1988 until the first half of 1989, house prices inflated more than 20% (Wellings 2006). The UK residential construction industry also saw a massive expansion, with 200,000
completions in 1988 compared to 115,00 in 1981 (Wellings 2006). In general, the frenzy in the housing markets in the late 1980s was sustained by a concurrent credit bubble, as happened in 1970s. Between 1982-1986, bank lending to property firms grew at over 25% per annum. In 1987, lending continued as the development boom gathered pace. According to Fraser (1993), bank lending to property firms doubled to £34 billion between 1988 and 1990. This peaked in 1991 at over £40 billion (Brett 1997).
It is also worth mentioning that a new and innovative lending product was developed during the 1980s—housing equity withdrawal (HEW)34. This product further boosted the housing
market demand in the UK, as housing was seen as a medium of further lending for consumption purposes (i.e. new cars, luxury goods, overseas holidays) (Reitan 2003, Balchin et al. 2003, Scott 1996, Fraser 1993). Another strategic change to mortgage products that exemplifies the credit euphoria of those times was the massive relaxation of the loan-to-value ratio (LTV) that occurred in 1982. For instance, during 1978-1981, only 10% of first-time buyers borrowed 94% or more of their house value. By 1983 to 1987, about 50% of mortgage borrowers took loans of about 95%-100% LTV, while about a quarter had 100% mortgage advances on their house value. With that new trend, banks adopted a market strategy of promoting their products to meet the existing mortgage demand rather than protecting existing borrowers or ensuring the viability of the loan provided (Ermisch 1990). In parallel with this, during the early 1980s, the government introduced a right-to-buy scheme to help council and housing association tenants buy their homes at a discount. This measure contributed positively to home ownership and investment in the UK housing sector (Kay 2006). Another notable issue of the late 1980s was the rapid increase of overseas investors due to the recent internationalization of financial markets. This led many overseas banks to establish a well-diversified portfolio of loans worldwide, including in the UK. Also, foreign investors such as Japanese, Scandinavian, American and Middle Eastern investors showed great interest in the UK property market. During the eighteen months leading up to December 1988, they were involved in about one-third of London’s total real estate purchases, with a total investment near £1 billion (Scott 1996). All of these circumstances led prices to escalate even further and investment euphoria in the UK property market was evident. However, in 1991, UK economy went into recession and interest rates began moving up in order to squeeze inflation out of the system (Fraser 1993). At the same time, a peak in housing completions coincided with a downturn in housing demand due to
34 Housing equity withdrawals encourage spending since increasing housing values encourages individuals to withdraw or borrow against
recession, causing substantial fall in values (Fraser 1993, Scott 1996, and Brett 1997). The consequences were dramatic: in 1992, construction output had fallen 30% compared to its high in 1988, individual investors, and households and several property companies such as Olympia and York Alpha Estates, Erostin and Sheraton went bust (Wellings 2006, Scott 1996, Fraser 1993). The year 1996 signalled the recovery of the UK housing market (Nationwide statistics 2013). From then onwards, the UK property market began to move towards the next bubble era.
6.1.2 2000s-The first housing bubble of the 21st century in the UK
The first housing bubble of the 21st century was a global event. Many countries, including the
UK, experienced housing bubbles at the same time. The list includes the United States, the Netherlands, Italy, Spain, Portugal, Greece, Cyprus, Israel, Romania, Bulgaria and others (Kennard and Hanne 2015, Phang 2013). In the early 2000s, the UK housing market was dominated by high returns, low interest rates and attractive lending schemes for property investors (Adair et al. 2009). In line with this, housing supply was low while population was rising rapidly (Clark et al. 2010, Jowsey 2011). As to the extent of a credit bubble, between 2002 and 2007, gross mortgage lending in the UK rose by 65% (Adair et al. 2009, Barrel and Davis 2008). As the real estate market was performing extremely well in early to mid 2000s, there was a common belief among participants that properties prices would increase indefinitely (Adair et al. 2009). All of these factors led prices to increase by 142% between December 1999 and December 2007. That is, a home price of £75,000 in December 1999 rose to £182,000 in December 2007 (Adair et al. 2009). Soon, however, the UK housing investment mania came to end. On 14 September 2007, the Bank of England announced a liquidity support to Northern Rock. This was the first shock for the UK housing market (Acharya et al. 2009). On 17 February 2008, the UK Government announced the temporary nationalization of Northern Rock. As a result, investment confidence in the UK real estate market was greatly damaged. This led UK house prices to fall over 18% between November 2007 and December 2008. At the same time, housing completions decreased by 13%, while housing start applications fell by 50%. In line with this, there was a considerable reduction in the volume of property sales transactions (Adair et al. 2009). On 21 April 2008, the Bank of England launched its Special Liquidity Scheme (SLS) to allow banks to temporarily swap their high-quality mortgage-backed and other securities for UK Treasury bills (Acharya et al. 2009). On 13 July 2012, the Bank of England and HM Treasury launched the ‘‘funding for
lending scheme (FLS).’’ This help-to-buy mortgage guarantee scheme sought to help first- time buyers as well as existing property owners purchase houses by providing them access to a 95% loan-to-value mortgage ratio for houses valued up to £600,000 (Bergstein 2014). The help-to-buy scheme can be considered as one of the biggest government intervention in the housing market since the right-to-buy scheme of the 1980s. In the wake of this policy, property prices saw a slight increase, with signs for a promising recovery in 2013.