House prices could plunge by up to 25%, warns thinktank

House prices falling by a third, interest rates soaring to 6%, inflation surging to 17%, and the economy going into deep recession – these were among the key elements of the most recent Stress Test undertaken by the Bank of England in September last year.

The UK’s largest banks faced a test by the Bank of England designed to prove whether they could weather an economic crisis that involves UK inflation soaring and property values plummeting.

The stress test scenario was simply part of an annual exercise aimed at weeding out potential weaknesses in the banking system that could put the country’s financial system at risk, and not a projection of what was likely to happen in the economy.

Since then, the Bank of England’s rate-rising cycle, which started at he end of 2021 has continued, causing mortgage rates to rise, house prices to fall and the price of government and corporate bonds to plummet.

High inflation remains a serious issue, although the rate at which prices are rising has dropped to 8.7%. Having said that, food inflation on items like bread, cereal and chocolate remains high at 18.3%.

In fact, while overall inflation has been on a general downward path this year, core CPI inflation rose to 7.1% in May – that is up from 6.8% in April and the highest it has been since 1992.

To help slow price rises, the Bank of England has now increased interest rates 13 times to 5%, with further rises anticipated.

What impact has the adverse economic conditions had on house prices? Well, while they certainly appear to have fallen in recent months, they have certainly not dropped by anywhere near a third in value. But the the decline could yet be steep if interest rates keep increasing, according to The Resolution Foundation.

The thinktank warns that residential property prices could fall by 25% if the Bank of England continues to hike the base rate.

The prediction by The Resolution Foundation, which said rising interest rates have caused household wealth to fall by around £2.1trn over the past year, comes as some economists forecast a further spike when the bank’s Monetary Policy Committee meet again in early August.

In a new report published this week, the thinktank said there would be winners, mostly among younger generations, and losers if higher interest rates remain.

The Peaked Interest? report, which forms part of a partnership with abrdn Financial Fairness Trust, looks at the impact of rising interest rates on household wealth and what a “new normal” of higher rates might look like for living standards.

It said the house to price earnings ratio could fall from last year’s peak of 8.9 to 5.6, which would represent a low not seen for around two decades, and could mean house prices fall by about 25% over five years in cash terms.

The research notes that the UK has seen an unprecedented wealth boom in recent decades, with total household wealth rising from around 300% of national income in the 1980s, to 840% (around £17.5tn) by 2021.

Ian Mulheirn, research associate at the Resolution Foundation, said: “Over the past four decades wealth has soared across Britain, even when wages and incomes have stagnated. But rapid interest rate rises have ended this boom and brought about the biggest fall in wealth since the war, of £2.1tn.

“Those with significant mortgages will be hit by these major changes. But there are winners too from a shift to a world of higher rates and lower wealth. Higher returns will make it far easier for younger people to save for a pension that delivers a decent standard of living in retirement, while lower house prices will make it easier for younger generations to get on the property ladder and others looking to trade up.

“The future path of interest rates is very uncertain. The current surge could be a blip, or herald a new era for the UK. Either way, policymakers should focus more on whether and how to insulate households from wild swings in their fortunes from these forces well beyond their control.”

Mubin Haq, chief executive of abrdn Financial Fairness Trust, added: “The short-term pain of higher interest rates for mortgage holders could also mean a longer-term gain for young people hoping to buy their own homes and saving for their pensions. Both become more affordable and allow for a fairer sharing of wealth.

“In these turbulent times, when assets have tended to be held by older generations, we may see rising interest rates reversing the growth in wealth gaps Britain has seen over recent decades.”



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