- Retail sales have been a good indicator of house prices lately – and they are now warning of stagnation.
- This prediction could be wrong – but unless there is government intervention because something unusual happens.
The boom in property prices may not last, economists believe. According to a recent Treasury Department survey, they expect house price inflation – which is currently 11 percent on the Halifax measure and 14.3 percent on the Nationwide measure – to fall below 5 percent and to about 5 percent by the end of this year 2 percent by the end of 2023.
However, it is not only economists who expect this. That’s what ordinary people do, implicitly. My diagram shows the point. It shows that the ratio of retail sales to house prices has predicted house price movements in recent years. When retail spending was low relative to house prices in 2007 and 2016, house prices subsequently fell or stagnated. And when retail sales were high in 2003 and 2012, house prices rose sharply thereafter.
With that ratio now near its lowest level since 2008, it points to only weak house price growth over the next three years.
One reason for this relationship is simply that consumer spending is partially predictive: we spend more today anticipating good times than anticipating bad times. Low spending is therefore a sign that households as a whole are bracing themselves for hard times – falling real wages or rising unemployment – circumstances in which house prices fare poorly. And because there is often wisdom in the crowd, average household expectations are often correct.
But there is another reason for this. House prices, like stock prices, are prone to momentum with the result that they eventually overreact up and down, becoming too cheap or too expensive. Comparing prices with stable (similar) bullish data will tell us what is “too cheap” or “too expensive”. The retail trade takes on this task.
But something else does, too – stock prices. When house prices have been low relative to stocks (as they were in 2000), they have subsequently performed well. And when they’ve been high (like in 2007), they’ve continued to fall. This is true regardless of whether we are looking at movements in real estate prices per se or in relation to stocks.
This ratio is now sending much the same message as the retail sales to home price ratio and indeed economists’ forecasts – that prices will not rise much in the next three years. That’s not to say the market will collapse — metrics suggest prices will fall only about one in four in 2025 than they are now — but indicators suggest house prices won’t rise much in real terms.
We therefore have a rare consensus. However, if there is a consensus, we must challenge it. Hence the question: Why could these implicit and explicit predictions be wrong?
In the short term, it’s easy to see why. Just as overpriced stocks can become even more overpriced, so can houses. Additionally, home prices adjust up faster than down because sellers are slow to lower asking prices. Therefore, when relative demand changes — for example, increased demand for rural real estate and decreased demand for inner-city real estate — overall prices can rise as higher demand is priced in more quickly than lower demand.
It’s also possible that even if people are correct about anticipating tough times, it may not result in weak home prices. If the bank responds to such hard times by keeping interest rates low, there will be support for prices. Granted, that’s not what futures and bond markets are pricing in, but it’s a possibility.
There’s another reason real estate prices could rise, despite being expensive compared to stocks. If we were to see a repeat of the 1970s, when earnings were squeezed by rising real wages, house prices (a claim to wages) would rise relative to stocks (a claim to profits).
However, there is no sign of this happening yet. Real wages are falling, and if the economists are right and household spending increases relative to wages, gains would hold.
However, there is another possible support for house prices. If they falter, the government could still take other measures to support them, such as: B. a reduction in stamp duty or an expansion of purchase assistance programs. From an economic point of view, such measures would not be very logical: for most of us, housing is not an asset at all. But then, policy making and economic logic are not the closest allies.
So the consensus that house price inflation will fall is not entirely robust. However, if it turns out to be wrong, it’s either because of government intervention or because something strange happened.
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