A predictions for 2016

More of the Same

29th December 2015

It's that time of year again when pundits make their predictions for the New Year and again I will be joining in. But before we do that I would just like to look back to my prediction for the last year and I think I got it fairly close. I missed the rise in wages but otherwise the UK's economy for 2015 can be summed up by indifferent growth driven by the housing market. There may have been euphoria in some quarters following the Conservatives re-election but this has been put into context by the revision of the official GDP figures.

And 2016 looks like it will be much the same; mediocre growth with low inflation. In fact I could have cut and pasted that forecast here, although we many not end 2016 on such a 'positive' note. We enter the New Year with GDP gradually falling rather than the steady growth of last Christmas and this trend will probably continue for the first six months if not the whole year as lending remains constant but government spending is cut back. Although this may be counted by the money the insurance industry will have to pay for the recent floods in the north west of England. A development worthy of note is the pension reform allowing over 55s to withdraw some or all of their pension pot. Whilst I have seen no figures for these withdrawals I suspect that quite a few will have used the proceeds to take on 'buy to let' mortgages, a rise in which the Bank of England is starting to become worried about. Generally these pension withdrawals will have a positive benefit on the amount of money in the real economy through mortgage lending and increased consumer spending for the next few years. Whether it is enough to offset the compensation from the PPI miss-selling that are set to end in 2018 is another matter.

One question that seems central to any prediction today is whether interest rates are set to go up especially since the Federal Reserve has started to raise rates in the US. I think the answer is highly unlikely. The reason being that the Bank of England's Monetary Policy Committee focuses purely on inflation and despite all the talk of growth this is set to remain low. Not just because of the collapse in the commodity prices but as a result of low interest rates; as described elsewhere on this website and in my new book 'An Interesting Theory'. On the Feds decision to raise rates I expect to be generally beneficial to the US economy.

Interest rates neatly leads us onto the UK's housing market which remains in robust health despite the mismatch between the growth in wages and house prices. There are concerns that a bubble is starting to develop among both regulators and the corporate sector. Much of this worry is focused on the London property market, but for a number of reasons outline below London has become a special case and sits apart from the rest of the property market. This is not to say that a bubble is not developing in the rest of the country, it is just not as advanced. On the basis of past average house prices to average wages it has a few more years to go before it is totally unstainable.

This generally upbeat assessment of the UK's economy has to be put into the longer term context of an economy that is overly dependent on the housing market. When this starts to run out of steam which it has to do sometime in the near future the underlining structure problems will become apparent. Regardless of whether the bubble bursts or even stagnates, as appears to be happening in parts of London, we can expect new lending with the associated interest payments and growth to be significantly reduced. In more normal times this would lead to a fall in the value of the pound with imports becoming more expensive however the new economic maxim seems to have developed around the London property market. In fact without this London factor it is very likely that we wouldn't be experiencing boom time at this moment. Without this benefit it is unlikely that we would have been able to plug the 6% gap, between what the nation buys and sells overseas over the last few years.

With so much of the UK prosperity dependent on the fortunes of the London property market further examination of the fate of this phenomenon is required. A large amount of this is to do with overseas buyers looking for a safe place to invest their capital and this will remain true while the world's other economies decline or remain in the doldrums. The doomsayer in me would say that this is a bubble that is waiting to burst yet the London property market prospers even when some key investor groups suffer such as the devaluation of the Russian Rouble following the Ukrainian crisis. With this in mind it is hard to see if anything can prick the bubble. In fact the world's current economic conditions are likely to prolong it for a few years more. One of the reasons, among others, as to why this bubble developed in the first place was that the exporting nations of China and Russia had a glut of Sterling. With little interest in buying British goods or services our assets including London property offered a suitable outlet to spend this spare cash. In more normal times the trade deficit the UK has run up would have led to run on the pound long ago but with the exporting nations keen to maintain their own revenue they have allowed it to continue such that it has become a virtuous circle. And this is unlikely to change as the world economy slows down, if anything the imperative to maintain exports to consumer countries like the UK will only become stronger.

No matter what the consequences of the new economic order are, the London Property is still a bubble ripe for bursting as highlighted by this by UBS report . In all reality it is still a number of years away and the trigger that brings it all down will be unexpected but in the spirt of a parlour game that such prediction have become I will take a guess at the likely causes. The most obvious is the glut of luxury properties that will come with the completion of Battersea and other developments. These properties have been sold off plan but in many cases only the deposits have been paid leaving large amounts outstanding. As with the danger of any highly leverages market when payment is due some of the investors may not have the funds. The second trigger may well be the bursting of another property bubble in Hong Kong. As identified in the UBS report above the Hong Kong property market is in similar territory to that of London. As the overseas Chinese community are key investors in London, trouble there may mean trouble here. It may well be that the completion of the London developments mentioned above catches some over extended Asian investors triggering a collapse in Hong Kong that in turn extends back to London. There again the mainland Chinese flush with money may step in. Other causes could be a continuing and sustained fall in the oil price forcing Middle Eastern owners to sell on, or tightening up of the UK's ownership requirement following the revelation that international criminal gangs are using London property to bypass anti money laundering rule. Politics may also play a role as housing for the local population moves up the political addenda. With some reports saying that as much 10% of properties are owned by foreign investors there may well be growing calls to restrict foreign ownership.

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