Sunday, 23 September 2012

When leverage isn't debt

On the Andrew Marr show today, Nick Clegg outlined a new LibDem scheme whereby future pensioners could use the lump sum amount of their anticipated pension pot to guarantee an up-front loan to pay for the deposit on a house or flat for their offspring (amusingly, while the Guardian and others describes this in terms of parents, the Telegraph pitches this as an issue for grandparents - they obviously know their readership). On the face of it, this sounds like a spot of inter-generational rebalancing, but another interpretation would be that "leverage is good", which isn't perhaps something they want to brag about.

The obvious trigger for launching this is the LibDem annual conference, but it shouldn't be dismissed at as a cynical PR skyrocket that will be forgotten by Bonfire Night. Though it will have almost no impact on housing or the wider economy, it plays on a number of popular anxieties and is interesting for what it indicates about both the LibDems' future positioning and the plans of the coalition government. This far out from a general election, the conference goodies of both Tories and LibDems will have been coordinated, as anything else would run the risk of embarrassing contradictions that would undermine the government over the coming months. The delineation is quite subtle.

The LibDems themselves have admitted that the number of beneficiaries will be modest, perhaps fewer than 13,000 will be helped onto the property ladder, and the macroeconomic impact will be lost in the noise. They have also admitted that many well-off people will not avail themselves of the scheme as they will have other assets or disposable income that they can use to fund the deposits of their children. In fact, there is nothing to stop a person with a private pension arranging a loan now on that future lump sum. This is nothing more than an "option", after all. Indeed, some of those better-off folk may already be doing this, as interest rates are historically low.

In other words, this policy is targeted at the "squeezed middle", those who have a potential pension pot of at least £40k and may thus anticipate a lump sum (at 25%) of £10k, but who wouldn't be prepared to gamble with it unless underwritten by the government (the details of the scheme have yet to be announced, but this is probably the key commitment, i.e. an indemnity in case your pension pot does not reach a minimum threshold come retirement age). Of course, this will only pay for roughly a third of the average deposit required nationally, and about a fifth of the amount you'd need in London, so the upper limit of the range may be a future pension pot of £150k or more.

It should be immediately obvious that if you anticipate a pension pot of only £40k, then you are looking at a retirement in poverty anyway. With current annuity rates as low as 2%, this pot will produce an annual income of £1,300 (assuming you take 25% as lump sum, otherwise it would be £1,700). The state pension will deliver approximately £5,600 in today's money, so you would need a private pension pot of at least £100k to match this and double your income, without any lump sum deduction.

The LibDems are obliged to pitch the scheme at the £40k level, as this matches the likely outcome for someone on median earnings (£21k) putting £40 a month (2.3%) into their pension, with zero employer contributions. In reality, the scheme is more likely to attract those with an annual salary nearer £50k, making contributions of 4% with employer contributions at the same rate, which would produce a pot of £350k. In other words, the professional and managerial classes and those with decent employer pensions. Those on a £40k "promise" are struggling due to low annuity rates (a byproduct of quantitative easing, in part), and may not feel confident about either future rates or property value appreciation (outside London and the South East). Those with larger anticipated pots have sufficient slack to gamble. A £50k draw-down on a £350k pot (14%) would largely pay for a deposit on a London flat. A 25% draw-down would allow for a significant reduction in mortgage repayments, which would be a good investment if you expect property prices to remain firm at worst.

The significance of this initiative in terms of the LibDem's positioning is the attempt to convince those on median incomes, many of whom will have working children at home, that Clegg & co have their best interests at heart. In combination with the much-discussed (but little seen) mansion tax, this paints the LibDems as the party of property owners of limited means. I suspect they are on a hiding to nothing here. As many have noted, the only realistic direction the UK property market can take, with the prospect of persistent low GDP growth over the near-term and stagnant wages for median earners and below, is down. When the inevitable crash happens, it will take chunks out of some pension pots and leave parents in conflict with their children. What median income earners need now is a higher income, not the ability to leverage their modest pension pot.

The reason why the Tories are presumably cool with the LibDems flying the "pension collateral" kite is that it is consistent with the belief that property values will (indeed must) stay high. Ultimately, this benefits financial institutions (i.e. lenders) and helps move capital to those who already own property assets (i.e. disproportionately the better-off and speculators). These groups, rather than median-income families, are now the key constituency for the Tories. The transition from the nouveau riche Thatcher, and her sympathy for the aspirations of first-time property owners, to the Cameron and Osborne clique of inherited wealth and City connections, is not an accidental social change but the manifestation of a more profound shift in the raison d'etre of the modern Tory party.

This reinforces the suspicion that the coalition government will not do anything to jeopardise house prices between now and a 2015 general election. That means no prospect of a large-scale house-building programme, continued support for builders of higher-value properties in London and the South East, no penalties for banking land or keeping properties empty, and continued quantitative easing and other monetary policies to cushion bank and building society balance sheets. While public debt remains anathema, private, property-based debt remains virtuous to the point of being the poster-child for growth.

1 comment:

  1. David,

    I agree, and thanks for the link to my blog post on this issue. I'm just working on the side on an analysis of market and economic performance over a number of economies. One interesting thing I've identified is the extent to which the bubble in asset prices occurred under Thatcher and Reagan.

    Although, the quantity of money printing over the last decade dwarfs that of previous decades, the inflation of asset prices in property and shares, was much greater in the 1980's to 2000, than it has been in the last decade. This is true whether you look atchanges in nominal or constant (2005) money terms.

    What is also interesting is the significant outperformance of economies both in nominal and (2005) terms in the Long Wave Boom period (I've taken 1950-1980 though the Boom ended in 1974) compared with the subsequent period. Yet, despite the massive growth during that period, the rise in property and share prices was relatively modest. The graph of house prices both for the US and UK for the period 1900 to 2010 is horrifying. It is basically flat line along the floor until around 1960, when it rises slightly, but steadily, and then over the last 30 years goes parabolic!

    Although, the increase in the last decade has been lower in percentage terms, it is a lower percentage on an already bubbled up base figure.

    Ros Altman on BBC News yesterday pointed out the real problem was massively inflated house prices. She spoiled it by saying that parents could borrow money against their own homes rather than pensions. As I said on my blog, its intended to bolster the banks, and as you've quoted pressure kids not to walk away from properties their parents might have a stake in.

    I look at properties around me, and see £1.5 million places now down to £800,000, I see places advertised at £400,000 sold for £300,000. I've seen places sold for £180,000 that someone has spent at least £20,000 on to do up and re-sell, going for just £160,000. These proposals are like putting your finger in the dyke of a rapidly falling property market. Anyone with any sense would be getting out of it while they still can, before it collapses, as every other such bubble has done.

    Finally, absolutely right about the hypocrisy of the Liberals on borrowing, but that is a sign of their desperation.