House prices: Bank of England faces a delicate balancing act

House prices in London

What should the BoE do to quell an incipient bubble, without harming the wider recovery?

LAST UPDATED AT 14:44 ON Fri 16 May 2014

"We are rapidly approaching make-or-break time for the new-look Bank of England," says Simon Watkins in The Mail on Sunday. With "dangerous bubbles" appearing in parts of the housing market, the Bank is under pressure to explain how it will cool the market without derailing the wider economic recovery. And pressure is mounting.

Last week the OECD became the latest think tank to join the bubble alert, calling for a clampdown on "easy credit" to bring prices back under control, says the FT. Meanwhile, three former chancellors – Lords Lawson and Lamont, and Alistair Darling – have urged George Osborne to scale back the Help to Buy mortgage support scheme, arguing that it will only serve to fuel houseprice inflation. Osborne continues to sit on his hands, maintaining "he is waiting for the BoE to tell him to act".

"Britain is not yet experiencing a property bubble," says Larry Elliott in The Guardian. In inflation-adjusted terms, prices nationally remain well below their peak. But assuming a 10 per cent rise in prices in the year to March, a bubble could swiftly form "if the Bank and Treasury make a complete hash of things".

Virtually everyone agrees that the market needs a major increase in supply. But that could take years to come through, so all the action in the short term involves bearing down on demand. "The Bank can end the party, any time it chooses. All it needs to do is whack up interest rates." But that's a "draconian" last resort. In the meantime, it has already begun to cool demand by obliging lenders to ask more stringent questions of potential borrowers – and a second intervention "is imminent".

The Bank could deploy new "macro-prudential powers" to impose tighter controls on mortgage lending, or compel banks to set more capital aside. A positive first move would be to "signal its intent" by cutting the threshold for house purchases eligible under Help to Buy from £600,000 to £300,000. The markets think interest rates will stay at 0.5 per cent "for around nine more months before policymakers start raising them", says Szu Ping Chan in The Sunday Telegraph. Many economists argue that this will be far too late. "After all, Britain is booming." 

But the likelihood is that the Bank governor, Mark Carney, "will resist to the bitter end", says Jeremy Warner in the Daily Telegraph. "The case for doing nothing is easily made." Large parts of the economy are still depressed, inflationary pressures continue to ease, and there remains a big question mark over whether household and corporate finances "are capable of withstanding any significant rise".

Yet the case "for grasping the nettle" grows stronger by the day. If nothing else, a rise in rates would "throw some grit into the system" and, in doing so, "bring the politicians to their senses on the urgent need for action on housing supply". 

A version of this article appears in the 17 May 2014 edition of The Week ·