Shed a tear for Mr Osborne

George Osborne may have shed a tear for Mrs Thatcher this week, but a reading of the Treasury Select Committee’s report on the Budget should make him feel even more miserable, as serious questions were raised about his biggest-ever housing initiative, the so-called ‘Help to Buy’ scheme.

Help to Buy has two parts.

  • First it is proposed to introduce equity loans, of up to 20% of the value of a new build home, repayable when the house is sold. This is a major extension of the First Buy scheme, and it is hoped that it will stimulate additional supply of new homes by boosting effective demand. The scheme is not restricted to first time buyers, the maximum home value will be £600,000, and there is no income cap. It is expected to last 3 years and Government estimates it will support 74,000 homebuyers at a cost of £3.5 billion.
  • Second, it is proposed to offer mortgage guarantees, aiming to tackle the scarcity of high loan-to-value mortgages by providing guarantees to lenders offering mortgages to people with small deposits (5-20%), whether first time buyers or not. This new intervention, which is also meant to be temporary for 3 years from January 2014, is potentially much bigger than equity loans: it could involve £12 billion which will in turn support £130 billion of mortgages. The Government would be liable to take a hit for a share of the value in cases of default, but lenders will have to pay a fee for the guarantee in each case, which it is hoped will make the scheme self-financing.

The Treasury Select Committee raises a number of serious concerns about the schemes, which it says have not been answered by Osborne or the Treasury. Among them are:

  • They are nervous that there could be a repetition of the experience in the USA where a system of mortgage guarantees (through the Fannie May and Freddie Mac arrangements) effectively stacked-up vast quantities of ‘sub-prime’ mortgages (ie to people who basically could not afford them) – a first cause of the credit crunch.
  • Help to Buy incentivises the Treasury to maintain or enhance property prices because the taxpayer has a vested interest in avoiding falls in value.
  • The backdrop of around 8% of existing mortgage payers already struggling to pay their mortgages, to the extent that they benefit from ‘forbearance’ measures. Lenders may not be willing to continue or to extend these arrangements to new more marginal borrowers, especially if there is a general increase in interest rates over the next 2-3 years. Repossession would therefore become a more common outcome.
  • There are no figures on the likely number of beneficiaries of the guarantee scheme and in particular no numbers on the number of first time buyers who might benefit.
  • Although the scheme excludes buy-to-let and interest-only mortgages, there has been no clarity on why the purchase of second homes has not been excluded.

There is a justification for further Government intervention in the mortgage market, but the case is strongest for offering specific help with deposits to first time buyers in ways which are directly linked to additional supply. No case has been made for a general scheme across the whole market, mainly because a general increase in demand (the ability of people to finance purchases) without a concomitant increase in supply is only likely to result in an increase in prices. This was the experience with the old system of mortgage interest tax relief.

The Select Committee quotes with approval Martin Wolf  of the Financial Times, who wrote:  “This is good politics and horrendous economics….. The government is encouraging people to leverage themselves up to the hilt in order to buy what is already likely to be overpriced property and, as a result of this policy, is likely to become still more so. This is irresponsible enough. But worse, the government will probably now find itself permanently using its balance sheet to support risky housing finance, as the US has done. The market cannot sensibly finance such high loan-to-value ratios. But this fundamental lesson from the crisis is now being thrown away.”

The Select Committee is also concerned as to how the schemes will be reported in the national accounts. It seems that neither of the schemes will be classified as traditional public spending. Loans can be repaid or are covered by a share in the equity, recoverable when the property is sold, but a similar argument could be put for council housing, which is, of course, treated differently. Guarantees might never be called in, but they do add to Government’s contingent liabilities. This is the second time the Treasury has been highly flexible on the matter of guarantees in housing, and it is welcome that they have moved away from the traditional view that guarantees should be counted as expenditure until proved otherwise. We hope to see yet more flexibility, especially in the treatment of council housing in Government definitions of public borrowing. One thing is clear: however the new scheme is accounted for, it tends to destroy the argument that there is no money left.

Osborne’s major housing initiative does not reflect the supposed priority of doing everything possible to boost housing supply. The Treasury Select Committee is right to conclude that that is where the Chancellor’s main concentration should have been. And it is also why it is right to see Help to Buy as a political and not an economic ploy.

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One Response to Shed a tear for Mr Osborne

  1. nearlydead says:

    Reblogged this on nearlydead and commented:
    The tears of a clown.

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