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Has the financial crisis made our cities unaffordable?

In the stormy spring of 2008, the UK’s worsening property downturn was yet to hit Sloane Street in central London. A full year after the start of the credit crunch and the run on Northern Rock — which started a slide that would see more than 20 per cent chalked off the average house price — the local Savills office was still processing bumper sales. “We had a fantastic, booming year in 2007,” says Jonathan Hewlett, head of their London region. “At the uber end values continued rising into 2008.” Receipts came in for £50m, £60m, even £70m homes. “Then Lehman Brothers crashed and everything changed,” he says. The banking system appeared to be in meltdown. From October 2008, the market pretty much stopped. When it picked up again about six months later, the prime London market — and other prime markets around the world — started behaving differently to the way they had before. The idea of the global city had been around in the 1990s and 2000s, but what happened after 2008 is that these cities synchronized. They started acting much more like each other, much more like independent city states, than they did their home markets. The turning point was the beginning of 2009, around the time the Federal Reserve began quantitative easing measures in the US, which the Bank of England swiftly followed.

Looking back, we didn’t quite understand what QE would do globally. The actions of central banks boosted certain types of buyer by inflating prices and reducing yields in all asset classes. What happened was that, for the first time, the cost of money in most of the cities was similar — you might say quantitative easing levelled the global playing field. The first thing that happened after the financial crisis was a flight to safety. Everyone decided that they weren’t going to do Kazakhstan and Vietnam after all, so they reverted to the prime properties in prime cities. London was among their primary targets. From 2009, the combination of low interest rates, a weakened pound and falling house prices attracted money from sovereign wealth funds, institutional investors and private buyers. Between 2010 and 2013, London had the fastest-growing prime property market in the world. By Q3 2013, its prime homes were the most expensive in the world — a single square foot was priced at $3,995, compared with $3,917 in Hong Kong and $3,101 in Manhattan.

When you drill down into the data around this time, the picture is often more nuanced than it first appears. As the eurozone crisis intensified in 2010 and 2011, the data show capital flight from the southern European economies to the north, in particular Germany. But at around the same time, there were southern European economies scrounging around trying to get investment. Governments in Cyprus, Spain and Portugal implemented “golden visa” programmes to attract overseas buyers while, in Asia, places such as Singapore and Hong Kong imposed restrictions on foreign ownership to try to dampen speculation. After the initial rush from the Arab Spring in 2011 — which caused a spike in Paris’s prime property market, as wealthy Middle Eastern buyers looked for a safe haven — the sovereign wealth money from the Middle East started to get replaced by money from China. In a lot of buildings — not just in London, but in Sydney and Manhattan — a lot of new apartments have been bought up by Asian investors in particular. London, for example, welcomed the international super-rich with open arms. In 2014, then London mayor Boris Johnson announced on the Freakonomics podcast that the UK capital had become to the billionaire “what the jungles of Sumatra are to the orang-utan. It is their natural habitat”. But a consequence of London’s new prime city status — and this is true of all these cities — is that the property market becomes increasingly hostile to its own ordinary citizens. There isn’t a global city we’ve come across where unaffordability isn’t coming up in some shape or form. For most of the 1970s, ’80s and ’90s, housing affordability in London remained relatively flat — the median house price ranged between two and three times the median earnings. By 2014, it was more than 10 times. In 2015, in Sydney, it was 12 times. In Hong Kong last year, the median house price was 19.4 times median income, making Hong Kong the most unaffordable city on the planet. Though new homes are typically a small percentage of the housing stock, the situation hasn’t been helped by the fact that new supply in all these cities is now overwhelmingly aimed at the prime market. This is not entirely down to property developers, as spiralling land costs have made building expensive homes the only viable option. The problem is, local economies have sometimes failed to keep pace. Wage growth has slowed in London, New York, Sydney and Hong Kong in the past 10 years — which both limits the ability of people to get mortgages and squeezes rental yields — making these new flats look very expensive indeed. Last year in London, more than half of the 1,900 high-end apartments that were built failed to sell. In the UK, agents tend to blame the decline of London’s prime market on changes made to stamp duty in 2014, which increased the tax bill on more expensive homes. But there are other factors at play. The second half of 2014 coincides with a drop in oil price of more than 50 per cent; and the imposition of sanctions on Russia following military action in Crimea. Yet another change came in November 2014, when the UK government increased the amount of money needed to get a Tier One “golden visa” from £1m to £2m, and then in April 2015 applied tougher anti-money laundering rules on applicants’ source of wealth. Whether they were priced out, or didn’t want their finances combed through, in the 12 months to March 2016, the number of foreign investors moving to Britain dropped more than 80 per cent on the year before. In London alone, successful applicants from China fell from 488 to 35. They started acting more like each other, much more like independent city states, than their home markets. Yet perhaps the most likely reason the prime London market started to decline is that London just started to look too expensive. By Q2 2014, the confluence of rapidly rising prices and a relatively strong pound made the value of a single square foot of prime London property worth $4,488. Over the past 10 years, the life-cycles of global cities such as London, New York and Sydney start to look very similar. They begin with central banks cutting rates; then foreign buyers are welcomed in, prices go up, high-end homes are built, capital appreciation drops and then cities are left with a lot of stock which is too expensive to sell. In Manhattan, sales of new apartments above $5m have been slow, and homes that have been resold, in the past 18 months, are indicating at least a 20-25 per cent reduction in price. Chinese buyers have been particularly active both abroad and at home. Looking at Shanghai, one can see how rapid growth from a low base has brought the price of prime Shanghai property in line with cities such as Sydney and Paris. In the US, the Chinese have been the biggest group of foreign buyers every year since 2015. But there are signs that they are beginning to tire of buying there too, at least in the commercial property sector. In 2017, Chinese investment in the Americas fell 65 per cent year-on-year; investment from Hong Kong fell 41 per cent — over the same period, both have boosted their investment in Europe, the Middle East and Africa by 309 per cent and 100 per cent, respectively. North American cities have had their turn. China has filled its boots in Hong Kong, London, Sydney, New York, Toronto, and is moving into European cities, which look cheap by North American standards — it’s a yield play.

There are signs they’re interested in Paris, agents say. Of the eight cities covered in the data, prime house prices in Paris grew the fastest in 2017, up 12 per cent in the year. The thing about Paris, the elephant in the room for the last couple of decades has been the very high tax rate, especially under President Hollande. The hope — and even the expectation — is that things will ease a lot under President Macron, that the city will become more business-friendly. Commercial investors seem to think so; investment in Paris in Q4 2017 is almost as much as the previous three quarters combined.

The fallout caused by the UK’s vote to leave the EU will be a huge factor, of course, but agents are sceptical this will cost London its global city status. It’s interesting to see that the vote doesn’t seem to have affected the prime property markets at all — or it hasn’t yet. With Brexit, it might be too early to tell. It’s not like Deutsche Bank is going to pack up and move, in any case, it will be an insidious, creeping effect at the margin. But there may be troubling signs for London’s prime homeowners. In the past, relatively weak sterling has prompted a rush of foreign buyers — since the pound was weakened by the Brexit vote, that hasn’t materialised. Overseas buyers are just more reticent about entering the market at this time. When they did come into the market in 2009 and the mid-1990s there was a pretty near-term expectation they might get some appreciation of sterling. With the uncertainty with relation to Brexit, they perhaps don’t have that this time round.

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Article by: Yiannis Misirlis