The property sector is influenced by and in turn influences wider economic issues and government policy decisions. Austen Imber sets out the basics.
In aiming for sustainable economic growth and improved living standards, governments attempt to both steer and manage a range of economic variables.
Gross domestic product (GDP) and economic growth
GDP is the total value of a country’s goods and services.
Economic growth is the increase in GDP, adjusted for inflation. The UK’s average annual growth rate over recent decades is around 2%, and is currently around 1.5%. Recessions are relatively rare, but occur technically when growth is negative for two quarters.
Inflation
A low stable rate of inflation helps achieve sustained economic growth. High inflation increases market uncertainties and decreases international competitiveness, hindering growth. Deflation is uncommon but can also be economically damaging.
The main measure of inflation is the Consumer Price Index (CPI), which represents a basket of consumer goods and services. The annual rate is currently around 1.5%.
Inflation can rise due to increases in demand, especially from greater consumer spending power and confidence, but also higher government spending and business investment.
It can also rise because higher costs see companies increase prices to preserve profitability. Energy and materials costs, reflecting energy and commodity market conditions, including any supply constraints, often vary temporarily, not meriting policy action, but increased wage costs can cause concern about inflation and wage demands continuing to follow each other up.
Influences on inflation as well as on the economy more generally, include spare economic capacity, employment levels (which are currently around record highs), skills levels, job security, gig economy flexibility, productivity, technological advances including automation and consumer preferences to save rather than spend.
Interest rates and monetary policy
The interest rate – known as “bank rate” or “base rate” – is determined by the Bank of England’s Monetary Policy Committee around every six weeks.
The current rate of 0.75% since August 2018 follows 1970s to early 1990s rates above 10%, and around 5% until the late 2000s global financial crisis and subsequent recession led to 0.5% for many years and a temporary 0.25% following the 2016 Brexit referendum.
The bank rate is set in order to meet the government’s CPI inflation target of 2%, but also reflects broader economic issues and factors such as interest rate changes generally affecting inflation 12 to 24 months later. Decisions are helped by various data indicators, such as retail sales, business spending, mortgage approvals, house prices, new car registrations, job vacancies, money supply figures and other inflation indices. Opinion surveys are also undertaken.
The bank rate determines the interest rates lenders charge their customers for residential mortgages and other consumer debt (as well as business loans and property investment and development financing). Interest rates influence and help manage the economy by varying the available funds and therefore demand for goods and services after interest costs are met. The availability and cost of debt also affects its demand, including lower interest rates facilitating more borrowing.
As well as interest rates, monetary policy since the global financial crisis has extended to quantitative easing. This is the electronic creation, also known as printing, of money to purchase mainly government bonds, to stimulate lending, investment and liquidity. The resulting falls in bond yields and interest rates can have favourable economic effects, but undue cheap liquidity can fuel asset prices. Together with any other financial excesses in the consumer, corporate and property sectors, this can risk another economic downturn and possibly crisis.
Quantitative tightening is the reversal of quantitative easing, which may be undertaken alongside interest rate rises to help manage improving economic conditions.
Fiscal policy
Monetary policy is the primary means of controlling the economy, but government taxation and spending could also be deployed as fiscal policy.
Income tax reductions increase consumers’ disposable income and therefore demand, although cannot be made as flexibly as interest rate changes. Higher government spending increases economic output, employment, consumer income and so on. Such fiscal stimulus would be more likely where there is diminishing monetary policy scope from ever lower interest rates and further quantitative easing. It can also occur more naturally, such as when general election spending promises are implemented. Tax increases and spending decreases may in contrast be politically difficult to achieve.
Annual budget deficits or surpluses from taxation and spending vary depending on economic conditions. High employment increases taxation from earnings and decreases welfare spending, and a strong economy should increase company and investment-related tax receipts, but the opposite occurs in a downturn.
Government borrowing levels need to avoid debt crises and related economic difficulties, including the effects of a country’s credit rating being downgraded. So while government spending increases economic output, unduly high debt can lead to austerity programmes which contribute to a downturn.
National debt is the country’s total debt. The government borrows mainly by issuing bonds known as gilts, also meaning that government spending includes debt interest payments.
Exchange rates
The exchange rate is the relationship between currencies such as the pound and the US dollar. The pound, also known as sterling, strengthens when £1 = $1.25 rises to £1 = $1.30, and more dollars can be purchased for a pound. It weakens if falling to £1 = $1.20.
A weaker pound means UK exports are cheaper and more competitive in overseas markets, increasing UK output. However, a weak pound can also see more expensive imports increase domestic inflation. A strong pound, in contrast, hinders exports and output, including through cheaper imports displacing domestically produced goods, but it also eases any inflationary pressures. Exports include services as well as goods.
Influences on exchange rates include a country’s economic strength in relation to other economies. Countries may actively influence exchange rates, such as devaluing for trade benefits. Financial market transactions and speculative investment activities also play a part. Higher interest rates can increase the demand for sterling deposits and therefore the strength of the pound (as can the expectation of higher interest rates, including that from the latest inflation data).
Other factors
The economy is influenced by numerous complex interrelationships and a range of uncertainties, shocks, government policy interventions, trade wars, geo-political tensions and other global factors. The US and China have especially high impacts on other economies, including the UK. The UK also continues to be affected by Brexit arrangements, including the prospect of some form of EU trade deal by the end of 2020.
Businesses welcome certainty, giving them the confidence to invest, including inward investment to the UK. Economic stability is therefore needed, as is political stability and also consistency with taxation, legislation, regulations, trade tariffs, etc. Confidence and sentiment are important factors. Behaviour can, for example, be influenced by media coverage of whether or not the economy might slip into recession and reports of house price rises. Accurate economic forecasts are characteristically difficult to achieve, and some issues do not receive attention until their detrimental effects materialise.
Property and the economy
The occupational demand for retail, office, industrial and other commercial and leisure property is highly dependent on economic activity.
The contrasting recent fortunes of the retail and warehouse/logistics property sectors as a result of online shopping also illustrate the impact of changing consumer trends.
Commercial property returns can be especially sensitive to the state of the economy and occupational demand. Overseas investment demand, sometimes aided by a weak pound, can help some investment sectors perform well, but can quickly dry up. Investment sector performance also depends on the returns available from other asset classes, including bonds, equities/shares and cash/bank deposits.
The housing market is influenced by the economic outlook and various national, regional and specifically localised supply and demand factors, as well as mortgage lending issues including interest rates, deposits and other requirements (reflecting lenders’ business models and banking sector regulations). The housing market also generates economic activity through construction and purchases of household goods and services.
The development sector can experience particularly amplified effects as housing, commercial occupational and investment market conditions improve or deteriorate.
Boom and bust extremes of economic and property market cycles notoriously see investment and development fortunes made and lost, especially when debt levels are high.
The property sector is also affected by government policies such as the Help to Buy scheme for new-build housing, the buy-to-let sector’s recent additional tax liabilities and planning policies such as permitted development rights for office-to-residential conversions.
The learning journey
School and university studies cover the more theoretical principles and an understanding of applied economic issues can be developed from newspapers, property journals such as EG, websites such as the BBC and various daily e-mail bulletins.
The RICS publishes a quarterly UK Economy and Property Market Chart Book and monthly residential and quarterly commercial property market surveys. The larger property consultancies publish economic and property sector reviews. The Bank of England provides monetary policy summaries and economic updates. Other sources include the Institute for Fiscal Studies, HM Treasury, the Office for Budget Responsibility and the Office for National Statistics.
Investor and development roles involve a particular understanding of economic issues and property sector trends, opportunities and risks. Softer career gains more generally include knowledgably impressing clients and others in social situations, helped by reading around such subjects.
Austen Imber is a surveyor and former Mainly for Students editor
Mainly for Students is edited by Paul Collins, a senior lecturer at Nottingham Trent University. He welcomes suggestions for the column and can be contacted at paul.collins@ntu.ac.uk
