London property bubble examined

Tim Harford, my favourite skeptical and eminently readable economist, asks the question: Is London experiencing a housing bubble? He is hesitant to be definitive on this, but makes a very good case for the idea that London housing prices are inflated and heading for a crash.

But have prices outpaced rents, suggesting a bubble? It seems so. US house prices are at historical norms relative to rents, and German and Japanese prices are unusually cheap to buy rather than rent. Yet in the UK, house prices are one-third above their long-term value relative to rents. And in London, gross rental yields are lower than in other UK regions at a slim 5-ish per cent. Such returns look low, given the costs of being a landlord. Logically, either rents should soar or prices should fall.

Yet London prices have lost touch with London earnings and with the price of houses in London’s commuter belt, and they continue to rise quickly. All this seems unsustainable, and when interest rates finally rise, surely the distressed sales will begin?

But there are three counter-arguments. The first is that housing is different. The second is that London itself is different. The third is that this time around is different.

Let’s dispense with the argument that housing is somehow bubble-proof. Bricks and mortar seem reassuring but there is no law of economics that says money is safe in housing. Real Japanese house prices have almost halved since 1992. Real house prices in the US have soared and slumped and are now cheaper than they were in the late 1970s.

When a man is tired of London house prices

(Image: anger...and bubbles, Lena Vasiljeva, CC-BY)

Notable Replies

  1. Didn't we discussed this same topic months ago?

    Of course there is a bubble, the question is how to deactivate it before it explodes blowing away all regular Londoners and their savings.

  2. If everybody's discussing the bubble, it's not a bubble. It's when people begin to say it can "never go down"... that's when you start hiding gold in the cellar.

  3. There was plenty of talk about the bubble before the US housing crash. Heck, Alan Greenspan was talking about it, but because there was money to be made speculators kept at it. Most people knew it was a bubble and that a crash was coming, but maybe they would be the smart one that could get out before it all came tumbling down.

  4. What's the alternative? Saving up for 30 years to buy your home with cash, paying rent the entire time and having to chase the housing market? Not too many people have $200k just sitting around. As much as I don't like bankers, landlords aren't much better.

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