The Default Line: THE INSIDE STORY OF PEOPLE, BANKS AND ENTIRE NATIONS ON THE EDGE (22 page)

The Labour government certainly delivered on that type of support. Tens of thousands of undesirable flats were built where there were not enough people to live in them, and not enough homes where they were actually needed. In 2001, new flats represented 23 per cent of new homes. By 2006 that figure had jumped to a half. Britain’s new homes were also shrinking in size – by floor area, by number of rooms, and by size of rooms. At 76 square metres, the average new British house in 2006 was 10 per cent smaller than the average existing stock. In Ireland new homes were 15 per cent bigger, in land-constrained Holland 53 per cent bigger, and in Denmark new homes were not far off double the size of those in Britain, at 137 square metres. New homes built in Britain during the boom were only 4 square metres larger than the 72 square metres deemed the minimum space fit for human habitation by the Parker Morris Committee in 1961, and subsequently adopted by the Ministry of Housing. The homes constructed during the British boom were also built to much lower environmental standards (insulation, energy efficiency, etc.) than new homes built elsewhere in western Europe. The credit boom and political inaction had caused breathtaking inflation in house prices, accompanied at the same time by a tangible decrease in the quality of new homes. Lose-lose.

If housing was a free market, then demand would be met by supply. Indeed, not just that, there would be an incentive to innovate, provide extra space, better energy-efficiency standards and hipper designs. But extraordinary limitations on planning in Britain have limited land supply and elevated its price. Land prices in Germany, for example, are much cheaper, and this is reflected in house prices. German planning law offers much more freedom to build.

In a competitive free market, the price of a house would reflect the average declines in quality. But in reality, the UK housing market has an inbuilt mechanism that perpetuates house-price inflation, regardless of quality. This mechanism comes in the shape of the chartered surveyor. Property valuations are governed by the Red Book, the surveyor’s bible, published by the Royal Institution of Chartered Surveyors (RICS). In practice, surveyors use the ‘comparative’ or ‘market value’ method of valuation. It relies on what other, similar homes in the same area have recently sold for – in other words, the market value – with some uplift to account for rising prices. But the market value is in turn determined by exactly the same process. Supposing a valuer thinks that the market is out of control, and comes up with a lower valuation than the buyer requires to get the mortgage. Well, the deal falls through, and a bank wanting to make a profitable loan will look elsewhere for a more obliging valuation. As Philip Bowcock, a retired surveyor and property academic wrote to the 2004 Government Housing Review as the boom was taking hold, ‘It follows from this that valuers, following the RICS Red Book directions, have been giving added support to the price boom. A number of chartered surveyors who carry out mortgage valuations have said exactly this to me, but for obvious reasons would not wish to state their opinions publicly.’

The Haçienda nightclub in Manchester achieved world fame in the late 1980s and early 1990s as the centre of the house-music boom. Less well known is the fact that, more recently, it became the centre of a house-price bust. The Haçienda closed, mired in financial difficulties, in 1997, but, as the disused mills, lofts and warehouses of Manchester became transformed into flats for a new model of city-living, local developers could not resist the lure of using the Haçienda brand to flog some overpriced property. The building itself was demolished in 2002, and in its place the developers built the ‘Haçienda Flats’. The drab reality of mortgages and home ownership was the very antithesis of the pounding euphoria of the Haçienda’s dance floor during its heady ‘Madchester’ heyday.

The flats were very popular with amateur landlords – the so-called ‘buy-to-letters’. A notorious property club called Inside Track drove some of the investment. Investors paid a fee of £2,500 per couple to attend special seminars. Then they paid a further fee of £4,000–5,000 for Gold or Platinum membership. In return the investor would get access to Inside Track’s special relationships with property developers. The flats, such as the ones in the Haçienda, would be discounted by up to 15 per cent. This would provide ‘instant equity’ for investors. In 2003 Inside Track’s vice chairman, Brad Rosser, banged the drum. ‘Property investment,’ he said, ‘had for far, far too long been a minority sport, enjoyed only by the very wealthy and financially sophisticated investor. Plunging stock markets and falling pensions have encouraged many more people to look at property. [Gordon Brown] has woken up to this and is clearly seeking to encourage a much wider audience to invest.’ In that same year, Inside Track claimed to have handed £25 million of ‘instant equity’ to its members. In 2007 the prices of many of the properties, including the Haçienda flats, collapsed. They have never recovered. Buyers certainly got instant equity – of the negative kind. Some properties were never even built. Inside Track seminars went bust. A host of lawsuits followed from aggrieved investors. ‘I was sold the unit by Instant Access, sister company of Inside Track,’ I was told by one investor. ‘It has been a disaster. The rent nowhere near covers the mortgage and it’s got worse when the rates are so high now.’

Inside Track was an extreme example of the dark underbelly of the property market. But the rapid growth of the buy-to-let (BTL) market brings together all the elements fuelling house prices. For a start, BTL changed the British housing dream from owning your own property into owning other people’s property too. Many expected the credit crunch and recession to put paid to BTL. But the cult of the amateur landlord did not just return in the crisis. It prospered. Property values have held, rents have surged, and there have only been a piddling number of repossessions. After the new coalition government slashed planning red tape, mortgage volumes have ballooned. A year after the crash, the old names in BTL lending were back in the game.

At the National Landlord Show in Kensington in 2010, well-heeled amateur landlords leafed their way through cheap housing for sale in poorer northern English cities. ‘Eviction popcorn’ was being distributed by a law firm promoting its ability to turf out troublesome tenants. Estate agents explained that few locals could obtain a mortgage to buy a £120,000 house. BTL mortgages, however, were priced on the basis of likely rent received. As interest rates were at rock-bottom, these typically interest-only mortgages were dirt-cheap, and a killing was there to be made for anyone with the 25 per cent deposit required. Even better, the mortgage was entirely tax deductible. Brutally put, local Mancunians on a typical salary would have zero chance to out-compete the landlords. At the show, some landlords admitted that they were in a ‘battle’ for property with first-time buyers. ‘Yes we take the same property,’ said one landlord with ten flats. ‘I feel a bit guilty, but they should work harder.’

The highest yields in the country in 2010 were on offer in Newcastle upon Tyne. There a young man called Andrew Pellegrino told me that what drove him was his ambition to become a millionaire before the age of 31. ‘I’ve got about 100 rooms split over 14 properties,’ he told me. ‘If you’ve got 50 grand or a 100 grand sitting in a bank account, or your folks have, the probability is sooner or later they’re gonna get a bit sick of being short-changed and put it in property. The values are low and if they’ve got a good-sized deposit they’re gonna buy and get a far better return.’

The rebirth of this industry within twelve months of the bank collapse was extraordinary. In fact, buy-to-letters were undoubtedly the unintended champion lucky winners from the emergency slashing of interest rates by the Bank of England, and that has lasted for years now. Whilst they charge their tenants thousands of pounds a month in rent, their interest-only mortgage deals charge just hundreds of pounds – even lower for those who have tracker mortgages.

Good for them, it might be argued. Except BTL was back at the expense of taxpayers and savers, as the ability of banks to service this relatively new market was undoubtedly saved by the British government’s bank bailout. BTL only formally started in 1996. Yet, remarkably, in 2010 I established that 56 per cent of BTL mortgages ever lent in Britain were sitting on the books of bailed-out banks.

Roughly half of the outstanding BTL mortgage stock is being nursed by the state in some form. At the time of the bailout, Bradford & Bingley and Northern Rock had, between them, BTL mortgage liabilities worth £30 billion, all of which came into government hands. I subsequently found out – from figures that the mortgage industry did not want released – that about 65 per cent of BTL lending in the year after the banking bust was coming from banks who had been bailed out. In the absence of the bailout, little of this business would have been done, and the existing BTL mortgages would have been dealt with far more harshly. Buy-to-let had become a quasi-nationalised industry.

Bradford & Bingley – which like Northern Rock was an overgrown former building society – lies at the heart of this story. Its roots go back to 1851, when it was established to provide home loans to thrifty workers in Yorkshire’s mill towns. In the competitive mortgage market of the early 2000s, B&B converted into a bank and decided to chase the returns available in providing mortgages for prospective landlords. Insanity prevailed. In 2003, a third of B&B’s £33 billion balance sheet comprised BTL and/or self-certification mortgages. By 2007 that proportion had grown to three-fifths of the total balance sheet, which was now worth £52 billion. At this stage B&B forlornly attempted to persuade international investors to continue their funding. In 2001 there was just £15 billion in BTL mortgage balances across all UK lenders. Just four years later B&B alone exceeded that figure. By 2007, £121 billion of Britain’s outstanding mortgage stock, a tenth of the total, was buy-to-let. By 2008, as funding markets closed, B&B effectively went bust and was more or less taken into state ownership, as agents from the Bank of England furtively waited on street corners to see if another bank run would materialise. In its last crazed attempts to persuade the markets for funds, B&B’s chief executive Steve Crawshaw presented some figures to the markets, in the form of a table, depicting a typical B&B customer. Average loan size was £121,000, and the average loan-to-value ratio (LTV) was 76 per cent. This compared with the average loan needed by first-time buyers: £131,000, which represented a 90 per cent LTV. Even better, Crawshaw maintained, was the fact that the average B&B buy-to-let customer was a 44-year-old on £80,000 a year, compared to the average first-time buyer, who was a 29-year-old on £35,000. The last column said it all:

Number of mortgages

BTL: 1.8

FTB: n/a

In Bradford & Bingley’s last death throes, its chief executive was trying to persuade funders that his bank was more prudent than many others.
His
bank had concentrated on buy-to-let customers, rich people in their mid-forties with £80,000 salaries, who already had two mortgages.
His
bank had not taken a risk with poorer, asset-less young people. It deserved saving.

The question is: why did the state step in to back what was not core housing finance, but high speculation?

None of this would matter if buy-to-let was unequivocally good for everybody. But it is not. It is clearly redistributive in the negative sense, a means of concentrating wealth where it already lies. It therefore has questionable impacts on social mobility. Peter Williams, New Labour’s housing-affordability tsar, told me that buy-to-let investors had been directly outcompeting first-time buyers for the same housing stock. Two-thirds of private landlords source their properties from the existing housing stock. It is common knowledge at the top of the mortgage industry that between 2005 and 2008, BTL replaced first-time buyers as the ‘marginal buyer’ in the housing market. In other words, BTL pushed up house prices ever more, at a time when they appeared to be falling. Good for some, but not for all.

I saw for myself how, even in 2010, estate agents would market £100,000 houses in Greater Manchester to well-heeled investors at the National Landlord Show in Kensington on the basis of rental yield. In BTL, multiples of rental yield replace multiples of salary as the pricing mechanism for our homes.

Young first-time buyers such as Naomi Jacobs in Newcastle finds herself more in a property nightmare than a property dream. ‘I’d love to buy a little house now,’ she told me. She wants to have a family, and as the family gets bigger so she’d want a bigger house. That is the dream. Naomi is a science graduate, a science graduate with a job. But she can’t get a mortgage. She blames the buy-to-letters. ‘The smaller flats that first-time buyers would want are ideal for them to rent out,’ she sighs. ‘But that’s the way it is these days. It’s slightly cruel when you think about it.’

The double whammy for the young is described to me by the economist David Stevens: ‘I think the government has a responsibility to look at whether the market is actually functioning in the long-term interests of the country. And it certainly pushed house prices higher in the latter stages of the boom when speculators piled into the market. In the aftermath of the boom it seems to be pushing rental prices up, when we need them to be lower.’

Here’s how the insane British economy works. We bailed out the banks, and slashed interest rates to 0.5 per cent, meaning savers can’t get a return. So retirees pour their capital into the housing market, and the demand is met by banks diverting mortgage funding to buy-to-let. Young people can’t afford to compete with investors with larger deposits, mortgage firepower, and tax breaks (partly paid for by the first-time buyers themselves). Because young people can’t afford to buy houses there is an increase in rental demand, which in turn pushes rents sky high. This attracts even more mortgage funding and retiree capital from no-return savings, exacerbating the problem. Because it is so expensive to rent, the young have no chance of saving a deposit to compete with the buy-to-letters – so completing a self-perpetuating vicious circle.