The British government wanted to help the poor people to buy houses.
Hmmmm, where have we heard that from before?
In this year, the British government instituted a “Help to Buy” program that will help people come up with the down payment for a home. In the past, most banks require the borrower to put at least 25% down, whereas now, the government will help cover 20% of the down payment, thereby allowing the homeowner to purchase the house with a 5% down payment.
An FHA-Type of Program?
Sounds like a FHA type of program to me.
However, the plan is that the government will only give the money interest free for the first five years, then after that it will charge something like 1% above inflation.
Hmmmm, a FHA plus a 5-year ARM cocktail, it is going to be quite potent.
In fact, it did boost the market all across the board in the UK. Because many of these people are now allowed to enter the market, there is more competition on houses that are being sold. In addition, many new buyers can enter this program and pay more to get a house that they want. The government thus started feeding the housing frenzy.
While one can argue that this program is going to allow people who have been kept out of the market a chance for home ownership, I think it will create much more damage that it helps. The mortgage market’s requirement of 25% down is meant to keep the market honest and conservative. Suddenly, you have letting people who shouldn’t own homes own one. In essence, it is a form of loosening lending standards, and we in America know how well that had gone before.
Furthermore, the government is setting a ticking clock for these new homeowners who may or may not be afford a sudden increase in monthly payments five years later. As much as we think inflation will go, so far people’s paychecks have stayed relatively flat and if anything had fallen.
Effect on Homeowners
Given the insidious effects of inflation, I believe many UK homeowners will not be able to afford a rise in payments. Cost of living has gone up tremendously already. Even if we humor the ridiculous healthy rate of inflation the world’s central banks like to impose upon us, an annual 2% inflation in five years adds a 10.4% increase in your cost of living (or decrease in your purchasing power). Unless your wage is indexed to inflation, this is not good.
Not to mention, I believe most UK mortgages have floating interest rates. The talk of tapering will mean that a sudden rise in interest rates which will undoubtedly cost a lot of pain for homeowners. The government knows that it can potentially set up another house collapse and now they are trying to cool down the housing market.
What can we glean from this?
All I can say is that central banks and governments throughout the world have gotten really good at inflating and deflating asset bubbles. Riding the bubbles at the right time can make you quite wealthy. At the wrong time, however, it can ruin you. In my opinion, the UK housing market is being set up for a future fall.
I wouldn’t considering buying there even if they offered me English breakfast, baked beans, and fish and chips along with a 20% down payment subsidy.
Photo Credit: tony.evans