Owner Occupied Housing - Assignment Example

? Management work Table of Contents I. Key demand side and supply side factors in the UK new owner-occupied housing market, mode of interactionleading to number sold and price at market 3 II. Construction Industry- Economies of Scale, Diseconomies of Scale 11 References 14 I. Key demand side and supply side factors in the UK new owner-occupied housing market, mode of interaction leading to number sold and price at market Owner-occupied housing is to be differentiated from two other types of housing in the inventory of housing in the United Kingdom, those two other being rented accommodations by both private entities as well as by local authorities, and property under the management of the housing associations. Owner-occupied housing includes property that is owned by private entities and have those private owners as the occupiers of the housing. Of the total number of households in the United Kingdom in the year 2010, about 17.8 million were households that were properties occupied by their owners, the biggest slice of the pie in comparison to privately rented households, households rented by the local authorities, and the households that are managed by the housing associations. The rise in owner-occupied housing is reflected in the fact that those figures for this categories represent about 65.5 percent of all households in the UK, up from about 70 percent in the initial part of the current century. This figure represents an elevation from the average percentage of owner-occupied housing for all of the European Union. These figures are reflected in the chart below (Economics Online 2013). Graph Source: Economics Online 2013 On the other hand we get a glimpse of the total picture of the housing market in the UK at present from several proxy indicators of health, including for instance the affordability of housing relative to the income or earnings of UK workers. This latter figure is a representation of the potential demand for housing, where for instance higher ratios of house prices to worker earnings translate to lower affordability owing to the reduced capacity of workers to purchase homes, and therefore lowered demand, and lowered ratios conversely translating to higher demand owing to the increased capacity of workers to purchase houses, all other things being equal. Of course in reality there are other factors that impinge on the ability of workers to purchase houses, such as the availability and affordability of credit to finance the housing purchases. That said, and more into that later, the following is a chart of the house prices to worker earnings ratios in the United Kingdom from 2002 to 2012 (Riley 2012): Graph Source: Riley 2012 In the plot above, we see that the prices to earnings ratios for property in the UK spiked from 2005 to its peak towards the end of 2006 and the beginning of 2007, before sharply declining from that point to 2009, where prices to earnings have been in the doldrums. On the one hand we see that the ratios should indicate a higher uptick in ownership from the lowered ratios, but we also get from the literature that the financial crisis in 2007 and the continued weakness in the UK economy from that time all the way to the present has generally resulted in a subdued interest in housing purchases in the country. Those two factors together has kept access to credit difficult, for one, while a generally depressed economy has affected consumer sentiment negatively (Riley 2013; Thomson and Bryan-Low 2013; BBC 2013; Ranscombe 2013). Graph Source: BBC News Following up on the last line of though, in the plot above, we see that the economy has not been doing well as of the past several years, contracting for five straight quarters on the tail of the severe financial crisis in 2007 and 2008, and barely avoiding a triple-dip recession in the most recent quarter. This general state of affairs has a heavy bearing on the supply and demand dynamics for owner-occupied property in the United Kingdom, as this paper will demonstrate in greater detail. Taking a step back, we see that from a most general perspective, the demand and supply dynamics for owner-occupied housing is most tied to the general state of the economy, because the intuitive thinking is that housing purchases should be fueled by the state of the general economy, while renting activities are conversely associated with such housing purchases. More renting activity means lowered housing purchases. If we look at the poor state of the economy, for instance, over the past several years, we have another indication of how that poor economic state may be correlated with weaker demand for housing, adding to the body of data to help us weigh in on the general state of the UK housing market. That general state of affairs is poor, even as we get to understand that the general state of the economy, as well as more specific data on the ratio of housing prices to worker earnings, both impact the demand and supply of housing in the United Kingdom, and in particular demand for and consumption of property that is privately owned and occupied Then there are forces too, on the supply side on the other hand, that impact the housing market dynamics, as instances when property prices escalate put forward incentives for property owners to cash in on high prices to reap the rewards of higher equity by selling, which in turn may result in increased supply and lowered prices (Economics Online 2013; BBC 2013; O'Brien 2013; Cavaglieri 2013; Cavaglieri 2013b; Rao 2013; Allen et al. 2013; Oxlade 2013). Going back to the fundamentals, that last line of thought relating to property supply being affected by the shift in the level of housing equity, or the difference between the market price of the property and the mortgage remaining on the property, is directly explored in the literature as being a primary force that affects supply and demand dynamics for owner-supported housing. This latter dynamic is affected by the price of property, which in the long run in the UK tend to trend upwards, even as the debt levels associated with property tend to go downwards as owners are able to trim them with mortgage payments through the years. We see therefore that this state of affairs generally results in the level of equity in the possession of owners to go up with time. Indeed, looking at the data in the UK from 1995 to 2012, we see that through the downturns in the economy during that time span equity on property has gone up with the steady upward trend in property prices and the steady decline in debt levels associated with such housing (Economics Online 2013; Riley 2013; Thomson and Bryan-Low 2013; BBC 2013; Ranscombe 2013): Graph Source: Economics Online 2013 Moreover, with regard to changes in equity, we see that apart from selling property, the dynamics of the housing market is also affected in turn by the way rises in property prices over time, when pronounced can result in property owners also trying to cash in on the rise in equity through the procurement of loans versus the property or housing. Observed trends with regard to the increase in house prices over the past few years should intuitively lead to more activities along this line, but we intuitively see also that the poor state of the economy and the poor availability of credit ought to dampen any such attempts to cash in on higher property prices. Indeed, the data for the past three years indicate that the trend is towards a negative change in withdrawals on housing equity (Economics Online 2013; Riley 2013; Thomson and Bryan-Low 2013; BBC 2013; Ranscombe 2013): Chart Source: Economics Online 2013 Now again to go back to the fundamentals, supply and demand dynamics are at work in the owner-occupied housing market in the UK, with demand going up with lowered prices, and going down with higher prices. The case is the reverse with supply, and the stasis point where the supply price and the demand price both meet is the point where the market operates at equilibrium, The observation is that natural market forces have tended to push the demand for owner-occupied housing, even as the relative lack of new building activities compared to other countries in the European Union have resulted in supply of housing to be relatively stagnant or at low levels compared to the demand. This situation has led to property prices rising from basic demand and supply dynamics, and this is born out too by data for the long term on property prices, and in the short term by the continued rise in property prices all over the United Kingdom over the past several years, something that has persisted through the current economic crisis (Economics Online 2013; BBC 2013; O'Brien 2013; Cavaglieri 2013; Cavaglieri 2013b; Rao 2013; Allen et al. 2013; Oxlade 2013). Meanwhile, a more nuanced understanding of the dynamics of supply and demand in owner-occupied housing in the UK would take into consideration factors other than price, as has been discussed above partly. The general state of the economy matters, as do other external factors and developments that impact the economy. In a more narrow sense, there are factors directly tied to housing and construction that impact supply and demand, including changes in technology that alter the nature of the materials used and the cost of constructing and maintaining new housing; changes in government regulation, such as stricter regulation of the issuance of construction permits or the encouragement of new house purchases via various government programs; the level of subsidies given to new homeowners and home builders; construction costs in general; and land availability. Land availability, for instance, impacts the capacity for new housing builds, and where land availability is artificially restricted, the trend is towards lower supply of new housing, and higher prices due to the natural increase in demand that has been observed in the UK over time, as already pointed at in the discussion above. These various factors described above, moreover, have the capacity, individually or taken together, to shift supply curves either to the left or to the right, so that where technological advances are made, for instance, the same price can be matched with a greater number of supply of new housing, whereas the restriction in the availability of construction materials either artificially or through acts of God, as another example, can shift the supply curve to the left, with the same prices being matched by a lower supply of new housing for potential owner-occupants (Economics Online 2013; BBC 2013; O'Brien 2013; Cavaglieri 2013; Cavaglieri 2013b; Rao 2013; Allen et al. 2013; Oxlade 2013): Plot Source: Economics Online 2013 Interest rates meanwhile, also impact the supply and demand dynamics for new housing, because the level of interest rates determine the mortgage rates. Higher interest rates result in higher mortgage rates and lowered demand for new housing. This impacts housing prices. On the other hand, in regimes where interest rates are deliberately kept low, then lending for new housing becomes attractive for more people, and therefore demand rises. With the rise in demand, prices also rise. This state of affairs with regard to the impact of interest rates on supply and demand, and price, dynamics for owner-occupied housing in the UK is reflected in the plot below. If the blue line is the curve for the interest rates, then we see that the upward movement in interest rates result in the upward shift in the demand curve. This in turn results in the prices of housing to go up from P to P1. Of course, there is a difference between the interest rates per se, and how available credit in actuality is. The crisis for instance has tightened credit availability in the form of stricter regulations of the approval of mortgages applications for instance. This depresses demand and dampens the upward movement of the demand curve shown below (Economics Online 2013; BBC 2013; O'Brien 2013; Cavaglieri 2013; Cavaglieri 2013b; Rao 2013; Allen et al. 2013; Oxlade 2013): Plot Source: Economics Online 2013 Now if we look at the actual state of the housing market in the UK, we see from the latest literature that the general fragile state of the economy, high housing prices, depressed earnings, low availability of credit, and the general negative consumer sentiment all weigh down the demand for new housing, but the short term prognosis is that this state of affairs is likely to persist. Basic economics will tell us that this put a damper on property prices, but this is not borne out by short-term data. On the other hand, the low demand for new housing is seen as providing the fuel for the upward trend in renting, from theory. This is born out by the latest developments in the housing market as well (Economics Online 2013; BBC 2013; O'Brien 2013; Cavaglieri 2013; Cavaglieri 2013b; Rao 2013; Allen et al. 2013; Oxlade 2013). II. Construction Industry- Economies of Scale, Diseconomies of Scale The preceding discussion on the non-price factors that impact the supply and demand for owner-occupied housing in the UK partly touches on the notion of economies and diseconomies of scale in the UK construction industry. Economies of scale are identified with being able to realize cost advantages from having to produce large amounts of a product from a fixed cost base. For instance, in the construction industry, the use of cost-effective materials and the presence of scale economies allow for lower overall construction costs per unit of housing, so that even with lowered prices and lowered margins a construction firm is able to realize substantial returns from selling more houses. The cost base is reduced, and economies of scale allow for the feasible operation of the firm along such cost structures. On the other hand, diseconomies of scale are those factors that negatively impact economies of scale gains, translating to overall higher costs for producing a product such as new housing. In the construction industry, for instance, while some gains may be had from reduced materials costs from technology advances, one can see that wages and human productivity may contribute to diseconomies of scale, where productivity is low and worker wages in the UK go up. In a hypothetical scenario where such diseconomies of scale become too large, the negative contribution to margins due to the upward pressure on overall costs from such may lead to the economic feasibility of undertaking construction businesses being undermined (Economics Online 2013b). In the literature one also talks about external economies of scale and external diseconomies of scale. In the discussion above there is a mix of both internal and external diseconomies, when for instance labor costs are fixed by government through the imposition of minimum wages for some construction industry work positions, which is an external diseconomy of scale, and where efficiency either deteriorates because of poor management or the poor labor skills of the people employed to do the construction industry work. In both cases there are diseconomies of scale, but in the literature their attributions as to the kind are different. Meanwhile, advances in technology in the construction industry benefit all players within the space with lowered costs for instance, or sturdier construction which results in overall lowered costs of maintenance, which add up to the margins to be made from construction activities (Economics Online 2013b). It can be said that in the last several years, it is external diseconomies of scale that have negatively impacted the construction industry the most, as they pertain especially to housing and related property construction. Such external diseconomies of scale are tied to the poor performance o the economy, which are in turn partly caused by internal diseconomies due to the poor handling of mortgages in the housing industry, and external diseconomies from the larger economic meltdown that started in other parts of the world and contaminated the UK economy in turn. The tightness in the availability of credit that resulted from all this can also be considered as a diseconomy of scale, because it contributes to the dampened demand for new housing. On the other hand, newer government efforts to shore up demand by lowering interest rates and providing a regulatory environment conducive to new housing purchases are external economies of scale that benefit the construction industry in the UK as a whole Economics Online 2013; BBC 2013; O'Brien 2013; Cavaglieri 2013; Cavaglieri 2013b; Rao 2013; Allen et al. 2013; Oxlade 2013; Economics Online 2013b). . References Allen, Kate et al. 2013. UK house price data send mixed messages. Financial Times. [Online]. Available at: http://www.ft.com/intl/cms/s/0/df24398a-9d52-11e2-a8db-00144feabdc0.html#axzz2Ro17OQQy [Accessed 27 April 2013] BBC 2013. UK economy avoids triple-dip recession. BBC News Business. [Online]. Available at: http://www.bbc.co.uk/news/business-22290407 [Accessed 27 April 2013] Cavaglieri, Chiara 2013. Britons forced out of their castles and into landlords' arms. The Independent. [Online]. Available at: http://www.independent.co.uk/property/house-and-home/property/britons-forced-out-oftheir-castles-and--into-landlordsarms-8590972.html [Accessed 27 April 2013] Cavaglieri, Chiara 2013b. Budget's incentive schemes cautiously welcome first buyers. The Independent. [Online]. Available at: http://www.independent.co.uk/property/house-and-home/property/budgets-incentive-schemes-cautiously-welcome-first-buyers-8554969.html [Accessed 27 April 2013] Economics Online 2013. The UK housing market. EconomicsOnline.co.uk. [Online]. Available at: http://www.economicsonline.co.uk/Competitive_markets/The_housing_market.html [Accessed 27 April 2013] Economics Online 2013b. Economies of Scale. EconomicsOnline.co.uk. [Online]. Available at: http://www.economicsonline.co.uk/Business_economics/Economies_of_scale.html [Accessed 27 April 2013] O'Brien, Chiara 2013. Britons forced out of their castles and into landlords' arms. The Independent. [Online]. Available at: http://www.independent.co.uk/property/house-and-home/property/britons-forced-out-oftheir-castles-and--into-landlordsarms-8590972.html [Accessed 27 April 2013] Oxlade, Andrew 2013. 'Win-win' for house prices as 1m prepare to buy, say economists. The Telegraph. [Online]. Available at: http://www.telegraph.co.uk/finance/personalfinance/houseprices/9994827/Win-win-for-house-prices-as-1m-prepare-to-buy-says-Ernst-and-Young-Item-Club.html [Accessed 27 April 2013] Ranscombe, Peter 2013. UK economy fears amid low consumer spending. Scotsman.com. [Online]. Available at: http://www.scotsman.com/business/retail/uk-economy-fears-amid-low-consumer-spending-1-2907768 [Accessed 27 April 2013] Rao, Nathan 2013. Good news for sellers: House price rises at three-year high. Express. [Online]. Available at: http://www.express.co.uk/news/property/390378/Good-news-for-sellers-House-price-rises-at-three-year-high [Accessed 27 April 2013] Riley, Geoff 2012. Markets in Action- Market for Housing in the UK. Tutor2u. [Online]. Available at: http://tutor2u.net/economics/revision-notes/as-markets-housing.html [Accessed 27 April 2013] Thomson, Ainsley and Bryan-Low, Cassell 2013. UK Economy Avoids Further Contraction. The Wall Street Journal. [Online]. Available at: http://online.wsj.com/article/SB10001424127887324474004578444153944938398.html [Accessed 27 April 2013] Read More