House prices are falling – but what does it mean for the future?

Britain’s housing market has turned hostile again, at least for sellers. The latest Nationwide index showed a surprise 0.4 per cent fall in April, the second month-on-month decline in a row.
A rival index produced by Halifax recorded a 1 per cent month-on-month fall in March, with the next update due next week. These indices can be volatile, but another fall would now be the betting favourite.
Nationwide’s chief economist Robert Gardner points to two trends to explain the market’s unhappiness. There has been a rise in new properties coming onto the market, while at the same time mortgage rates have been rising, stretching affordability, especially so far as the market’s most important sector – first-time buyers – are concerned.
Towards the end of April, a string of major lenders hiked mortgage rates across their fixed-rate products, including heavyweights such as HSBC, Barclays and NatWest. The trend has continued. Santander, for example, increased its rates on some residential mortgages and all its buy-to-let products twice in four days. No wonder the housing market is suffering from a spring chill.
“Even with the decline [in mortgage rates] at the turn of the year, rates are still much higher than they were during the pandemic. Affordability is much more stretched than it was,” says Gardner.
So, are we at the start of a bigger downturn, or do economists believe a brighter picture is on the way?
Rates on popular two- and five-year fixes have gone up because of the way their prices are set, via what is known as the interest rate swaps market. It is governed not by base rates but by the City’s expectations of their future path.
The Moneyfacts average two-year rate sits at 5.91 per cent, while the five-year rate is 5.49 per cent. It was possible to find rates close to 1 per cent in 2021, before the Bank of England imposed 14 consecutive interest-rate rises in an attempt to bring an inflationary spike under control.
Gardner nonetheless says he thinks that the worst is probably over for borrowers, who may well be looking at the current deals on offer with something approaching horror.
“We expect rates to moderate a bit with the Bank rate when it comes down, but we need to be realistic,” he says. “When that happens, if base rates follow the path the market expects, it is only going to have a modest effect on fixed-rate mortgages.” And it is short-term fixed rates that are the most popular with UK borrowers.
Investec’s chief UK economist Philip Shaw also expects to see a modest improvement in mortgage rates when this finally happens. “Mortgage rates have crept up again over the past couple of months as expectations of the Bank rate have firmed again. It looks likely that the declines in the Nationwide house price index in March and April are at least partly attributable to this,” he says.
“With the economy recovering only modestly, and inflation still falling, it seems likely that the Bank of England will cut interest rates this year, quite possibly in June. If that is the case, then mortgage rates should slip down again, and housing market confidence should recover.”
However, he says, the likelihood of this scenario “hinges critically on the data on inflation and the labour market over the next couple of months”.
Inflation sprang a modest surprise on the upside in the year to March, falling from 3.4 per cent to 3.2 per cent, but City economists and, crucially, the Bank of England had predicted 3.1 per cent. Prices have sprung a bigger and nastier surprise in the US, with the rate of inflation increasing in both February and March, when it reached 3.5 per cent. Both countries’ central banks aim to keep it close to the target of 2 per cent.
While the US and the UK are in very different places economically, that sort of sudden and unwelcome development will still worry rate-setters on the Bank of England’s Monetary Policy Committee (MPC), which in turn worries the City, feeding through to that all-important swaps market and thus the mortgage rates that are on offer.
What continues to bedevil all those engaged in making forecasts is the high level of uncertainty the UK is experiencing. There is a view, expressed by Paul Dales, the chief UK economist of Capital Economics, in the Financial Times, that inflation could slip below the Bank’s 2 per cent target later this year. The main driver is currently services. Their prices are closely linked to wages, which have been rising rapidly.
However, employers expect settlements to moderate this year. The latest Bank of England Decision Maker Panel indicated a feeling among employers that wage growth will decline by 1.5 percentage points over the next 12 months.
That could persuade the MPC to cut base rates faster than expected, lifting the gloom in the swaps market, with lower rates following, making homes more affordable, especially if prices remain becalmed.
Gardner also notes that annual wage growth, running at around 6 per cent, is well ahead of annual house-price growth and the UK rate of inflation. Nationwide’s April average house price of £261,962 was just 0.6 per cent above the price in April 2023. This further improves affordability.
But David Cleary, managing director for housing at Lloyds Bank, still sees it as a problem. “While the economic outlook is expected to be more benign than in recent years, housing affordability and the supply of truly affordable homes remains low,” he warns. He nonetheless says that the lender expects to see “modest house-price growth this year”.
Simon French, Panmure’s head of research, says: “The good news for UK property is that a reasonable amount of price adjustment has been done by falling real-terms prices.”
If mortgage rates ease – as most expect they will, even if only modestly – the housing market should start to show some signs of life. But the long-term problem remains that there are too few available homes in just about every part of the UK market.
England has a rate of homelessness of 42.6 for every 10,000 people, which is appallingly bad when compared to the next worst in a league table produced by the Organisation for Economic Cooperation and Development (a club for rich countries). Following England in the ranks are France (30.7), Czechia (28.4), Germany (25.9), and the US (19.2). The top performers are South Korea and Finland, both of which have a rate of homelessness of just 1.6.
French’s response to this is succinct and to the point: “Build. More. Homes.” Needless to say, doing that would make buying more affordable by improving supply and relieving pressure across the market. It ought to be a priority for any incoming government.