Medium-term cycles in affordability: what does the house price to income ratio indicate?

Abstract

Using the Christiano-Fitzgerald filter to extract business and medium-term cycles, this paper considers house price, gross domestic product per head and the ratio of the two for the UK over 1955–2020. It shown that, although the synchronisation of business and medium-term cycles is associated with the largest price and ratio events, there a shift of volatility from the former to the latter cycle range, which begins in the 1980s. The medium-term cycles are closely aligned. Indeed, the phase-leading role of income over the others is at odds with current stabilisation policy thinking. The trend in income growth is steady but then, around 2002 peters into a stagnant period. The trend in the house price-income ratio is remarkably stable, but in the era of finance liberalisation, that stability is disrupted both in trend and cycle. This appears to be altered by the adjustment to greater financial accessibility. In effect, this trend traces the amount of debt that an agent s income is expected to service when purchasing a dwelling, or the real interest rate. Any return to the normal cost of capital could have a severe impact on borrowers.