As the major central banks are slowly retreating from their policy of asset purchases, we will probably witness some of the side effects of this withdrawal.
Warren Buffett famously said that “Only when the tide goes out do you discover who’s been swimming naked.” The tide is going out only slowly, but we are beginning to see, at least in the UK, the damage the ultra loose monetary policy has done.
Since the financial crisis started in 2007, the Bank of England slashed interest rates to record lows and bought government and corporate bonds to try to arrest the recession and restore confidence in the financial system. It has done that, but at a price the economy will start to pay now.
The underlying message at the time was: don’t worry about paying back just yet, for the moment just borrow some money and go out and spend.
They did, but not necessarily on things that helped the recovery. House prices in London are the main example. They have increased by more than 60% since 2007, according to data from the Office for National Statistics. But, depending on the area of London and the type of property, house prices have even doubled in the period.
For example, a one-bedroom flat in Zone 3 sold for £120,000 in 2009; it sold again for £240,000 in 2015. Its price doubled in six years, as low interest rates made mortgages very affordable for those keen to invest in residential property, especially buy-to-let investors.
In fact, buy-to-let investors have been the only category of buyers who have done extremely well since 2007.
First-time buyers struggled, because even though mortgage rates have been going down, rising home prices means they’ve had to borrow increasingly big amounts and come up with higher and higher deposits.
Many of those seeking to move home have stayed put, preferring to add another extension to their home (it is not uncommon to see workers on the roof of houses in Greater London adding another room, nowadays), priced out of the race for a bigger property.
Foreign investors were the other category of buyers for whom the past 10 years have been a boon. While many Britons blamed immigrants for the rise in house prices, immigrants were the wrong foreigners to blame.
Attracted by ever-rising property prices and few questions asked about the source of the money, foreign investors flocked in from all over the world, putting additional upward pressure on prices.
But with the Bank of England no longer purchasing bonds, the Federal Reserve tapering its asset purchases and raising interest rates and even the European Central Bank cutting its asset purchases in half, the tide has turned. In the UK, some of the buy-to-let investors might start to wonder what happened to their swimsuits.