House price booms can breed financial instability, especially if driven by speculative behaviour that eventually reverses.
Residential property prices in the UK increased by about 13% year on year in June 2021. This was the fastest growth rate recorded since 2004. We examine the extent to which an increase in demand for larger properties outside city centres during the pandemic (the ‘race for space’) may explain this increase in prices.
To this end, we have built a model based on the ONS’s methodology for calculating the UK House Price Index (HPI) and focused on three ‘race for space’ factors that have potentially driven price growth during the pandemic:
- A shift in the types of properties traded. For example, transactions of detached homes increased while transactions of flats decreased. The lilac bar in Chart A shows that this change in the basket of purchased properties explains nearly 11% of the house price growth since January 2020.
- An increase in the price that buyers were willing to pay for a house compared to a flat with similar characteristics (eg located in a similar area, with a similar number of bedrooms). As shown by the pink bar in Chart A, this accounts for close to 21% of the price growth.
- A reduction in the price gap between identical properties in London and outside of London since the start of 2021. This accounts for around 15% of the overall house price strength, shown in purple on Chart A.
Chart A: ‘Race for space’ factors explain around 50% of the growth in house prices over the course of the pandemic
Year-on-year growth in HPI, when controlling for different drivers of growth over the pandemic (a)
Putting this together, our model suggests that shifts in demand consistent with the ‘race for space’ could account for just under half of the strength in house prices since January 2020. The rest is likely to be driven by other factors, including the temporary relief to the stamp duty land tax, and savings accumulated by households during lockdowns.
As the pandemic fades, the contribution of Covid-specific factors to price growth is likely to fall. But this analysis suggests that, absent further developments, there is unlikely to be a sharp correction in the level of house prices without a reversal in ‘race for space’ housing preferences.
This post was prepared with the help of Mai Daher, Martina Fazio and Gary Harper.
This analysis was presented to the Financial Policy Committee in November 2021.
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