In Capital Economics’ revised housing market update, the firm said price falls of around 12 per cent would make mortgage costs more affordable.
Based on average mortgage rates of 1.5 per cent last year compared to six per cent this year, the research group said the monthly cost of an 80 per cent loan to value (LTV) mortgage on an average priced home and a median income had risen from under 40 per cent of disposable income to over 60 per cent.
The analytics firm said mortgage affordability would determine the level of house price changes going forward.
It forecast that the labour market would remain stable and generate a five per cent rise in wage growth. The Bank of England’s base rate will peak at five per cent to trigger a recession and bring inflation back to target. The base rate will then start to come back down in 2024, resulting in average mortgage rates of four per cent by the middle of that year.
Capital Economics said this would help to improve mortgage availability, but a house price fall of 12 per cent would reduce costs enough and bring them back to the affordable range of 40 per cent of the median disposable income.
A 12 per cent decline in prices will be smaller than what was seen during the 2008 financial crisis when values fell by 18 per cent and will bring prices in line with May 2021. However, in monetary terms such a drop will be a steeper fall than recorded in 2007 to 2009.
Higher rate risk
If rates stay higher or at six per cent for longer than predicted, this will pose a further risk to mortgage affordability and instead “a house price fall of 25 per cent would be needed,” the firm said.
Elevated mortgage rates and costs will also shut people out of the market, cutting annual transactions from 1.23 million this year to around 925,000 next year and in 2024. This will be the lowest level of housing transactions since 2012.
Net mortgage lending could also fall, with the number of approvals for house purchase dropping from 804,000 this year to 610,000 in 2023 and 2024. This will be another low for the market since 2012.
Supply concerns
Supply will reduce if house prices drop as homeowners will be reluctant to sell in a slow-moving market where there is a chance their homes will be valued lower than previously.
Low market activity could also impact the delivery of new homes, with Capital Economics saying: “Historically, transactions have a good relationship with new housing starts, so the drop back in transaction numbers is likely to trigger a slump in housebuilding.”
The firm also noted that developers tended to build homes at a rate which would not negatively affect local market pricing, further indicating that a slow-moving market would not be favourable to high new build volumes.
It predicted that new housing starts would decline from 178,000 this year to 110,000 in 2023 and 2024. This would also be the lowest since 2012.
Andrew Wishart, senior property economist at Capital Economics, said: “Based on our forecasts for pay growth and mortgage rates, house prices are set for a correction comparable to the financial crisis in scale while transactions and construction will fall back to their lowest levels for a decade.
“The biggest risk to our forecast is that mortgage rates don’t fall back as we project, in which case a larger drop in house prices would be necessary.”
