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Old 14th December 2008, 10:09 PM   #11
Mega Forero
Join Date: Mar 2008
Location: Madrid (Arganzuela)
Posts: 834

Originally Posted by MrMark View Post
The housing boom has been affected by many factors. The creation of Liar Loans (whereby people wrote their own salary figures, and the banks didn't check) and the granting of mortgage on 4 or 5 times salaries, have been 2 of the greater factors. Against this, a couple of points either way on interest rates wouldn't have affected things to any extent, especially as people were seeing (unearned) gains in house price value of 2k a week at the height of the bubble.
If the interest on your mortgage drops from 5% (the level it has typically been in the UK since 2002) to 3% (the level it has typically been in the the Eurozone since 2002) then your mortgage interest payments drop by 40%. I'd say that's a pretty big reduction on your mortgage payments, and allows you to spend quite a bit more on your house = house price inflation.

3.5 times salary was considered the limit for mortgages during the 90s, when mortgage interest rates were typically 7%. For the last 10 years, as I mentioned above, mortgage interest rates have been around 5%, i.e. nearly 30% lower. Lending 5 times salary when the long term average interest rate is 5% is no more reckless than lending 3.5 times salary when the long term average interest rate is 7%.

I agree that lending 6 times salary and 100% mortgages has been reckless, and self cert loans plain stupid. The FSA should all have been sacked, and the likes of Northern Rock left to go bust. However I can't see how they are more significant than interest rates.

Originally Posted by MrMark View Post

What would have slowed the price bubble would have been effective control of the banking system, so that people were forced to put down 20% deposit on a new house and be unable to borrow more than 3.5 times their salary. Anyway the net effect is that people have been paying twice the long-term value to buy a house. This amount of money has to be paid back, and is now being sucked out of the economy, creating the current deflation. Things will improve once house prices revert back to the long-term norm, debts are repaid, and confidence resumes. The danger however is that the Government itself borrows so much that the currency becomes worthless.
The Bank of Spain strongly encouraged people to put down a 20% deposit on houses. This didn't stop them from having a house price bubble, though it might reduce negative equity now the bubble has burst. Again, what caused Spain's (and Ireland's) property bubble was their level of interest rates. Both Spain and Ireland had booming economies from 2002 until 2007, yet membership of the euro meant they had low interest rates, leading to property bubbles in both countries.
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