It is said that the housing market is one of the most popular dinner party conversations in the UK. In the past few years, it has certainly been a popular source of tabloid headlines, and it is easy to see why. Over the last two decades, the UK has witnessed two spectacular booms and busts in house prices and these changes have had a significant impact on the wider economy. In this article I examine why the UK housing market is so volatile. What impact does this have on the economy? Is there anything the government can do to reduce this house price volatility?
Governments repeatedly set targets for building new houses, but invariably they fail to meet these targets. For example, the government currently has a target of building 240,000 houses a year. But, in 2008, only around 100,000 were built. For various reasons it is difficult to build new houses in the UK, even in a boom. This means that, when prices rise (i.e. during the boom of 1995–2006), the supply of housing cannot keep pace with rising prices. Because supply is inelastic, it means when demand rises, it causes a bigger proportionate rise in price. If supply were more elastic, it would moderate house price booms. Similarly, when the price of houses falls, the supply of housing does not reduce (people do not knock down houses just because prices are falling). Therefore, a fall in demand causes a large percentage fall in price.
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