1. Inflation targeting is not enough. “It happens that in the early years of inflation targeting, it did produce a stable economy. But I think it’s now clear that it can’t, by itself, produce a stable economy ... Do I think we should have perhaps looked a bit more at some of the money indicators?’ Yes, possibly that’s true.”
2. On Gordon Brown’s 2020 target for housebuilding. “The fact that the government announced this big target for a long way out, well, I can understand why they did it in a political sense, but of course that’s not very flexible to circumstances. Of course, two things have changed since they announced that. One is that one might feel differently about demographic prospects because you might feel that migration isn’t going to be quite so large...”
4. Her remit never allowed her to look at the causes of the demand for housing – just supply. "When I wrote the report I didn’t believe – and I certainly didn’t believe so for the last couple of years - that the whole reason that house prices were rising was because housing was undersupplied ... I’ve always thought it stemmed much more from demand factors. Particularly from mortgage and finance factors."
5. There’s no point banning 100% of 125% mortgages, as some (ie, the Prime Minister) have suggested. "I think, I don’t want to have a completely unregulated mortgage market with banks unregulated in what they do and the way they behave. But I’m not personally convinced I want to say we’d absolutely never have 100% mortgages. You might want to have rules about the averages across the book - all that kind of thing. Rather than saying 'no never' because personal circumstances vary enormously."
6. It was not inherently risky that UK personal debt rose to 180% of income – the highest any G7 country has every known. "To know whether it’s inherently concerning would require you to know what the prospects were of all those households paying back the money."
UPDATE: Here's the complete transcript:
The argument that you made – that we had this one-off adjustment to low interest rates and this drove prices up - is perfectly sensible and explains the bulk of the price rises probably up to about 2005. Beyond that beyond, that there were more and more signs of a “bubble” psychology. I think the evidence you would point to suggesting that that was the case would be the increase of buy-to-let investors. So, people who were buying properties when clearly the only way they could make money (if they mortgaged them) was for prices to continue to rise.
FN: You mean they would be letting them at a price less than what they were paying in mortgage?
FN: So capital gains would…
KB: In that limited extent, yes. But that doesn’t mean that I’ve gone to the other extreme and say that house prices have to come back to the long-term price-earnings ratio average. It does seem to me that the mortgage market is not going to go back to how it was just prior to the crash. That [house prices] relative to the cost of mortgages that we had in interest-rate terms is probably not going to be as high permanently.
And I wouldn’t expect that we would go on having such very high requirements for deposits. There’s clearly a good question about [whether[ should you ask people to produce some deposits. And in fact I have much sympathy with saying that: yes they should. And, clearly 100% mortgages are clearly more risky.
KB: No they don’t. But the big slide down to 75-80% [loan to value requirement] may be overdone. So I would expect the mortgage market to move. I expect house prices to move up again.
FN: So are you saying that the price-earnings ratio of housing is an unreliable metric?
KB: To some extent, yes. But I think the basic point about [defining] the bubble is when people have expectations that are clearly not going to be realised. Identifying that is not easy. Of course people who went into the buy-to-let market early were completely correct and they did get returns.
FN: They did. But also, people often now cite the 125% mortgages as beingobvious madness – broadly in the same category as £80,000 garages in Chelsea. But there was a period of time, around 2002, when if you thought that house prices were going to rise substantially then the 125% mortgage would be quite manageable. I guess my question to you is do you believe that 125% mortgage was inherently an unstable proposition?
KB: I think it’s incredibly hard to say that it’s an inherently unstable proposition for everybody. There weren’t hundreds of 125% mortgages anyway. But surely it depends on the person’s position and riskiness - i.e. are they in a job such that you think that they’re going to be able to withstand a lengthy period of unemployment? I don’t think you can just say that [125% mortgages are unsustainable] without knowing the circumstances in which [the money] is loaned. There probably were people who received these mortgages who it was perhaps unwise to lend to.
But the broader question isn’t so much “are 125% mortgages wrong?” It is much more a question which I think the FSA does raise which is: “how do you think about risk in the housing market? You wouldn’t ever want have a housing market in which nothing ever went wrong. Even if you look back at what we now regard as a sort of “golden period”, a certain number of people were repossessed every year. Clearly what you want to avoid is having a situation where you get forced asset sales and it feeds back on itself. I think the idea that 125% mortgages are just inherently wrong for absolutely everybody is not right. But clearly, lots and lots of them can’t make sense.
FN: Earlier you said that you think people should have to lay down a deposit. So are you against 100% mortgages on principle?
KB: I think it’s more desirable that people do have a deposit. It gives them some cushion against negative equity and it leaves the lender in a less risky position. So clearly, if everybody had 100% mortgages, then you’re very exposed because they wouldn’t all have them all the time, because of the way the market changes, generally with growth.
FN: But is your position that mortgage lenders should exercise their discretion and judge for themselves?
KB: I guess, within remits, I do. I mean clearly, I think, I don’t want to have a completely unregulated mortgage market with banks unregulated in what they do and the way they behave. But I’m not personally convinced I want to say we’d absolutely never have 100% mortgages. You might want to have rules about the averages across the book - all that kind of thing. Rather than saying “no never” because personal circumstances vary enormously.#
FN: Going back to the housing bubble – or buy-to-let going crazy, or whatever you want to call it. Was the root cause of it an oversupply of underpriced credit?
KB: I suppose it was an oversupply of underpriced credit because we feel people didn’t price risk correctly i.e. there were too many [cases] where people were really, really stretched. Failure to think through more systemic threats: you know, what happens when one institution goes down? And really thinking about the effect on others and all these other things that we have learned. So too much risk. People underpriced risk and I guess that’s another way of saying credit was too cheap.
FN: And do you still believe that so many houses need to be built? I mean, you’ve seen house prices at the moment, they’ve collapsed and people think house prices are going to fall by another 10, 15 per cent. If you were to do your housing supply report now, would you still argue that the root problem is not enough houses?
KB: I didn’t believe that at the time I wrote the first report.
FN: You didn’t?
KB: No. So, I wouldn’t believe it now either!
FN: On reading the report, you were talking about the need for X many houses a year.
KB: I did, I did, yes.
FN: And one reading that would get the impression that this is your prescription for Britain’s housing problem.
KB: It’s my prescription for part of Britain’s housing problem. Housing supply is clearly not the only thing that goes on in the housing market and when I wrote the report I didn’t believe – and I certainly didn’t believe so for the last couple of years - that the whole reason that house prices were rising was because housing was undersupplied. I did think that it was part of the reason for the very long term trend in house prices, but in the cyclical sense with house prices I’ve always thought it stemmed much more from demand factors. Particularly from mortgage and finance factors.
FN: You didn’t look at demand factors in your report, though.
FN: Why not?
KB: Because I was asked to write a report on the supply of housing.
FN: I see, so if you had been asked…
KB: If I’d been asked to write a report on the housing market in total I might have perhaps covered mortgages and much more detail. We did look at demand factors in the sense that the work that was, the modelling work that was done by Geoff Mulgan’s [?] report looks at trying to extract the role of housing supply in price as opposed to other factors. So, of course, you do have to put demand factors in there. So mortgage interest rates and that sort of thing would all appear in that equation as well as the supply of housing. So what you’re talking about is the elasticity of prices to housing. But, that doesn’t mean that that’s the only thing that drives the housing market.
FN: you were basically asked to write a report about one specific aspect of the housing market. If you’d done a report about the housing market in general, what other broad points would you have made?
KB: That’s a really good “if” question, isn’t it? What other broad points would I have made? I think it’s pretty difficult to answer that looking back on 2004/5. Because, after all, that’s when I wrote the report. What are the broad points I would have made at that time? I’m not sure. I think I’m in good company here saying I would have made all the points about the nature of risk and the banks that people now make. And I was interesting in Adair Turner, when he was asked the question “If you’d been at the FSA two years ago, would you have been wiser?” I’m given to understand he said “No, I’m not sure I would necessarily have been wiser than people that were there then.” All these things become more obvious with hindsight.
I’m confident I wouldn’t have said “there is a general underpricing of risk and that’s going to lead to trouble”. It’s trouble that’s hardly just affected the housing market, it’s been also very clear in the equity market and, indeed other asset markets. So it’s not unique to housing. If you were really looking at the questions for demand for housing, of course, you’d look at tax. And indeed there’s some discussion of this in the interim report on housing supply. You look at the way that owner-occupied housing is taxed relative to rental housing.
FN: You did mention tax in your report, saying it wasn’t a very effective tool in controlling things.
KB: I think I said “tax wasn’t a very effective tool in controlling land supply.” I don’t think I said “it wasn’t a very effective tool in controlling housing” because I didn’t really look at that subject. So I wouldn’t, and since I didn’t look at it, I’m not going to tell you now that if I had looked at it what I would have answered!
FN: Well, what is your view in general, then, of tax and housing markets? To what extent can tax be used to cool the market?
KB: Well, the one recommendation I did make on tax, and I still feel this to some extent – this actually doesn’t appear as a recommendation, it appears in the text. Is that I commented favourably on the proposal to have Council Tax more directly related to the valuation of homes. It’s not entirely easy to do because it requires homes to be revalued much more frequently. It has other disadvantages – for example it would make local authorities’ finances hugely much more cyclical. So they’d had have had lots of money years a few ago and nothing today. In fact, it would mean that property tax wouldn’t be such a good basis for local authority finance, you’d have to move up to something else like local income tax. Cyclical local government finance wouldn’t be a smart idea.
But if you are really interested in using the tax system in that way then I think you have to think about something which is more related to the value of housing because you have to think of something which would make people enthusiastic about housing values. And in a way today we are quite enthusiastic.
KB: Absolutely. The acquisition of wealth and the ability to pass wealth down to subsequent generations. So, as deposits have grown, we know that many more parents help their children with deposits because it’s usually only possible if your parents own a house in the first place. The point about housing and wealth is that, it’s twofold, one is that the big rise in housing wealth, in some senses, distributed wealth through the community – because, after all, 70% of people, roughly, a bit less now, are owner-occupiers – but also it meant a much sharper division, much more difficult for people who are priced out, to get into the market.
FN: But that would presume that houses would keep on going and if there’s a big almighty crash then there’s unequal distribution of negative equity which is…
KB: …Also unfortunate, that’s right. But that’s the difficulty with managing the economy more generally rather than managing housing supply. I think looking back at the review, the hesitation I would have about – I don’t know if you remember that the original source of the review was a proposition that the UK had a more volatile housing market than the rest of Europe and that it drove a more volatile economy than the rest of Europe. Now, this is something that the Treasury suggested. Now I look back at that and I have to say I am less convinced by these propositions than I was – well, I’m not sure I was completely convinced by them at the time, in the sense that I think that the idea that housing is a root cause of instability in the economy isn’t quite right.
What happens in the housing market is much more a response to other things that are going on in the economy. I think the role of [housing] supply in limiting volatility in the housing market is pretty low because of the length of time it takes to bring supply on train. However it doesn’t mean it’s completely nugatory. I used to get these flyers through my door saying “you should buy houses because it’s absolutely clear we’ll never build enough so the prices will always rise.” So an expectation of an undersupply of houses will of course get factored into today’s prices.
FN: Isn’t that classic bubble logic, though?
KB: Well, no. It’s not classic bubble logic if you, well, it is classic bubble logic if…
FN: …if you think prices will go up forever?
KB: It ought to get capitalised into prices today. But that does suggest that there is a relationship between price and supply because people’s expectations of supply are capitalised into prices today. If you have a better expectation, it ought to help the market not to be quite so cyclical. But essentially, this is the small change in the housing market cycle. The big change in the housing market cycle comes out of other economic factors.
FN: Is there anything that governments or policymakers can or should do to regulate the housing cycle?
David Miles has been writing much more about the long-term mortgage proposition. He was also, in some sense, conducting a piece of work that addressed this issue. To be frank, I thought that the relevance of that work to housing market volatility was rather greater than the relevance of supply. But I don’t really want to delve into his work! So I think all those things thinking about the regulation of credit more widely are the way in which you’d approach dealing with the housing market, dealing with that sort of housing market volatility. So you might manage to dampen the cycles, and I think that’s very worthwhile.
KB: Well, that doesn’t mean you shouldn’t keep on having a go at it. There was a time when we felt not many people had cracked controlling inflation, then we all had a go at that so…
KB: I think that’s a fair comment, but I’m not sure that at the Bank we ever argued everything else would necessarily be ok. There was a bit of a tendency to assume that everything else was ok. But it is clearly possible to have other things that go very badly wrong in economies in a micro sense. You could have low inflation and a very dysfunctional labour market, for example. Or low inflation and dysfunction in other markets. But it’s certainly true that low inflation doesn’t answer all the questions. I think it’s clear that we think that.
Can I go back to a question you asked ages ago which I never really answered which was about the supply of housing?
FN: Yes, do you still think we need to build so many…?
KB: And the answer was “yes we certainly need to build more”. Do I think we need to build exactly the same number as when I wrote the report? Well, no I don’t because various things have changed since I wrote the report. Generally, the government’s response to my report was very good and I was very happy with it. But one of the things I wanted to say in my report was that the response of housing supply needed to be flexible to changes in circumstances. In that regard, the fact that the government announced this big target for a long way out, well, I can understand why they did it in a political sense, but of course that’s not very flexible to circumstances. Of course, two things have changed since they announced that. One is that one might feel differently about demographic prospects because you might feel that migration isn’t going to be quite so large. Not that migration, of course, is the key driver of household growth. The key driver of household growth is aging.
FN: How big a portion of…
KB: Oh God, I knew you were going to ask me that. I can’t now remember the answer. I think it’s something like… migration accounts for half of population growth and 30% of household growth.
KB: You mean that they want bigger houses?
FN: No, not that they want bigger houses but if you basically take, for example, the average English-born woman has 1.6 children. The average foreign-born woman has something like 2.4. Immigrants do tend to have larger families.
KB: Well, that would go in the population data.
FN: Sure. Ok, I’ll rephrase it: How sensitive do you think these population predictions are to immigration trends? How much can we count on these forecasts? Actually, the ONS describe them as projections, not forecasts. They’re not saying “we think this”, they’re saying “on current trends”…
KB: That’s right, they extrapolate. Exactly, that’s what I’m getting at. They extrapolate trends and it’s perfectly plausible to think that the trend of migration won’t be as high and, if you look at the ONS data, they have a higher and lower number and it has a very considerable effect on households. But, of course, furthermore, it’s not just households that drives demand, it’s also, as we’ve remarked, income conditions and those too are a bit different now, so we might think that that too will be a constraint on demand. So, my feeling is that we do have to be flexible about what we supply, but I’m pretty confident that the number we’re building at the moment is not great enough.
FN: There are hardly any!
KB: That’s correct. My recollection is that for the last ONS data there were for 258,000 household growth in England. Last year we built far fewer than that in terms of… well the net additions figure is further behind for 2007/8, that reached a peak of around 207,000 or thereabouts. And that’s clearly a long way down. Net additions, of course, are not just new buildings but conversions and demolitions as well and it’s very likely that will fall by 20 or 30% so we are clearly at very low levels and it’s important to remember that when I did the report we were at much lower levels. We were down in the 140, 130s. We were clearly falling a long way behind what you would think of as desired household growth.
FN: So many should we build today to avoid these outcomes you that were talking about in your report – social division, etc?
KB: Well, I’ve kind of indicated that 250,000 is a bit high. I haven’t done the work to think how much lower it should be. But, at the time I was talking about numbers that are lower than the numbers the government is now discussing, even on an extreme view so I would have thought that the number you would come to now would still be in excess of 200,000 a year in England. Which, in the last decade, we’ve only gone above that once.
FN: Yeah, sure.
KB: But I think you have to be careful to say what are the problems that arise here? I mean people often say, I’ve noticed that somebody from the RBA said in Australia well, you know does this really matter if it’s just kids staying home with their families a bit longer rather than moving out and forming separate households. And I think the truth is, if you thought that’s was what it was, you wouldn’t care at all. The reason you care is because you know the people who are squeezed are the people who are just above the social housing level. “Do I really care if middle class kids stay at home with their family a bit longer? No I don’t.” It’s not great for [unintelligible]mobility, but do I think it has bad social consequences? No, I don’t. Do I care if there’s a group of people, fairly low down the income barrier, found it very difficult to acquire decent housing and be able to form a separate household and have a family, yes I care about that an awful lot.
FN: Why’s it so important that they buy? In so many countries, they tend not to. They can rent.
KB: Well, this is a good question, actually; whether it’s important that they buy and I’m not completely hooked on people necessarily buying and indeed I wasn’t, unlike other people, I didn’t feel that the buy-to-let thing was a terrible thing to happen. I wouldn’t have a problem if we had a good private rented sector. But if you absolutely are not building enough houses then the strains and pressures will come out somewhere. And the difficulty is, if you’re not building enough houses, the incentive to buy is very great because of the price expectations are affected in the way I described earlier. People want to get on the ladder. There are also questions of…
FN: Can I stop you there? You say “the ladder”, can we still about a housing ladder? Because it creates an image of a Jacob’s ladder, something which goes up forever. Many new homeowners are in negative equity now because this is how they saw it.
FN: But should policymakers try to discourage this idea of everyone climbing on this ladder? The government talks of helping people buy a house as if it’s somehow the government’s duty. The French would never think of saying that.
KB: That’s an interesting question: whether home ownership is a good thing. I’m not personally sure that I am so fussed about it. In the long run, if you have constrained supply you will create this incentive for people to buy early because they will always be worrying about losing out.
FN: If they think prices are going to go up forever.
KB: So a better market to me is one where, well, in some senses I thought the market in the early ‘90s was quite nice. Where young people didn’t feel that they had to buy, and they did rent and I thought that was fine. I have no issue with that. But you still need an adequate supply of housing in order to ensure the market functions properly. Essentially, If you don’t have an adequate supply of housing you will always get tensions in it somewhere. So I’m not necessarily suggesting they have to be able to buy. I am suggesting an adequate supply of housing is necessary for the market to work properly.
FN: Your report mentioned there should be more social housing. But why is it so important that councils should build or buy houses? Can’t you have the private sector building houses and let them out to the appropriate people at subsidised rates?
KB: There is a huge argument, a long debate, about whether you want bricks and mortar subsidies or whether you should just subsidise rents. The answer boils down to whether you think it’s a good to have some management in those estates. We don’t have a very well-regulated private rental sector. Not as well-regulated in terms of quality and management as council, or indeed, Housing Association estates.
FN: Do you think we’re still haunted by the ghost of Peter Rachman?
KB: We are still possibly haunted by the ghost of Rachman. I don’t think people now are quite that bad! But actually if you go and look at some ex-council estates today, you’ll see some houses that were bought under “the Right to Buy” that have subsequently been sold to somebody who then puts them into the private rented sector and allows the property to deteriorate. That has had a pretty deleterious effect on the whole area. It has actually meant that rather than what “right to buy” was intended to do which was to lift these areas up. If that happens, it then becomes a fact that actually pulls them down again.
FN: Can we go back to monetary policy? It’s one thing saying inflation is low, but if that isn’t necessarily a proxy for economic stability then what is? M2 or M4? What else could we or should we be looking at to work out if this economy is overheating or not? What is it we all missed?
KB: Well, I guess the answer to what we all missed was something in the ways in which the banks were doing the lending. I’m personally not sure that I would just say “M4’s rising quickly, so that must mean the economy’s unstable”. The mispricing of risk is a pretty difficult concept to get across. It is true that, as the Bank would say, they were warning about this in things like the Financial Stability Review. But it’s worth asking a different question: “Do I think that low inflation is going to guarantee a stable economy?” Now, it happens that in the early years of inflation targeting, it did produce a stable economy. But I think it’s now clear that it can’t, by itself, produce a stable economy.
We’ve commented on the need for a secondary instrument if we want to regulate credit and imbalances. But, probably, a deeper question is “is there a way of running [monetary] policy that guarantees a permanently stable economy?” The truth is, I suspect, that there isn’t.
FN: But even if the banks hadn’t collapsed, we still had household debt at 180% of income which is the highest any G7 country had ever known. Wasn’t there something inherently concerning about that?
KB: To know whether it’s inherently concerning would require you to know what the prospects were of all those households paying back the money.
FN: What you’re saying is “it wasn’t the absolute debt that mattered it was the debt repayment burden”. Which that depended on whether you expected interest rates to stay low for very long. But if there was a rise in rates, it was a choke in the credit supply, then – well – it was running a risk.
KB: That’s right, you have run a bigger risk and you’re completely right that there was this. That’s just saying the same thing again without the misperception of the mispricing of risk.
FN: Sure, but no. We did run the risk did we not? Because the level of debt was such in Britain that we as a country were vulnerable to a disruption in the credit supply or a rate increase.
KB: But you run that risk at a much lower level of debt too.
FN: Sure, that’s right. But at 180% of...
KB: But I think to go immediately to saying “gosh, you’ve got this really high level of debt, therefore there must be a problem” is not necessarily the answer. You can have debt that’s much lower, and if the credit supply suddenly disappeared it would be difficult. With hindsight, it’s correct that the level of debt perhaps should have told us more about risk than it did. But there were lots of reasons why debt rose – we pointed out ourselves that if you have a downward adjustment in rates and a higher level in house prices, you will automatically, on the back of that, get quite a substantial rise in the level of debt.
We chose to run our higher education system in a way that means people come out of university with a higher level of debt. So it comes back to the question you asked right at the beginning about asset price problems. But I don’t think I want to say a level of debt that’s more than X or Y is necessarily inappropriate.
FN: And what about secondary instruments to control debt levels?
KB: Oh, yes, ok. I have nothing to say beyond what the comments the Bank’s already made about secondary instruments and I don’t think we’ve reached a firm view as to what secondary instruments are.
FN: But you don’t accept the view that basically the instrument to do this is the instrument of interest rates and that the Bank of England should have taken account of money supply like the ECB does or it should have taken account of the prices of assets as well as the prices of consumer goods?
KB: There are two separable questions there. “Do I think we should have perhaps looked a bit more at some of the money indicators?’ Yes, possibly that’s true. “Do I think we should have tried to take account of assets?” I think that would have been really difficult. It’s been very, very difficult to control the price of assets just through interest rates as well.
FN: The MPC works to remit a set to keep CPI inflation at 2.0%. So if the MPC were some reason had been concerned about monetary supply or something, you couldn’t really raise that in the meetings, could you?
KB: Yes of course you could, the reason for being concerned about money supply in a sense was that it told you something about the economy’s imbalances - in a way that would lead to problems with the inflation target down the road. So, in that sense, we’re always concerned about asset prices. We’ve never ignored, just because house prices came out of the remit, didn’t stop us talking about them.
FN: Really? I don’t remember asset prices cropping up much in the MPC minutes. I don’t remember you discussing it much.
FN: Yes, you all concluded that house prices didn’t much affect consumer spending. But that turned out to be incorrect.
KB: Did it?
KB: How do you know?
FN: There are several studies showing the link between consumer spending and equity withdrawal - but I’m using up valuable interview minutes here and this is a separate issue.
KB: Yes, I’m not entirely sure that I would agree with you. I mean, it think that the Bank’s argument which is they are driven by simultaneous things in the economy. I’m not – there is something about equity withdrawal, we’ve never suggested there wasn’t…
FN: Equity withdrawal accounted for about a fifth of high street spending at one point.
KB: It’s about credit constraints. Well, yeah.
FN: Nobody’s spending any money now because they’re all trying to pay down back their mortgages because they’ve borrowed too much and, anyway, let’s move on.
KB: I feel we’ve dealt rather unsatisfactorily with that question.
FN: I’ll ask just one more. When people think about the Barker review on housing they say - fairly or unfairly - she missed the elephant in the room: the problem of house prices wasn’t lack of supply, it was that there was that there was a asset bubble going on. The report spoke as if house prices would continue on this trajectory, that there would be a two-tier system of property owners and non-owners…
KB: No, no. Yes, well, if the report said that, that would be true. But as a matter of fact it didn’t say that. It said that the factor in the very long-term trends, not cycles, was driven by housing supply. It did say that in the short-term demand factors were likely to be much more significant. So I don’t think I missed the elephant in the room. But in the long run, if you ignore housing supply you will build up real problems for yourself. And that remains as true today as it did the day I wrote the report.
FN: Okay, our time is up. Thank-you.