THE DEMAND FOR HOUSES
As with most demand curves, we would expect the demand curve for houses to be downward sloping. If house prices fall, buyers are rationed into the market as their given amount of income in the market place can buy a larger number of properties. Conversely rising house prices will ration some buyers out of the market (extension and contraction of demand).
There are many non price factors which lead to an increase or decrease in demand. Some of these include:
Disposable income of buyers: we would expect, that as income rise, the demand for houses to increase, ie the demand curve will shift outwards at all prices, suggesting that houses are a normal good. Within the market as a whole though, there maybe segments where some types of property are inferior goods, eg terraced houses.
Unemployment levels: there should be a negative relationship between unemployment and the demand for houses. A contributing factor here is peoples expectations. If workers feel confident about the future, and expect a steady stream of income coming into their pockets they will be more likely to purchase property. Conversely, if there is job insecurity and workers expect a rough time in the future, they will be less likely to want to move house.
State of the economy: the above factors could be linked to the overall state of the macroeconomy. In periods of economic expansion, incomes rise and consumer confidence grows. A "feel good" factors develops which encourages an increase in demand for houses. When the economy moves towards recession the opposite happens. This suggests that the demand for housing is income elastic.
Availability of finance: the majority of people cannot afford to purchase property outright and have to rely on a mortgage to buy the property. There are a several considerations here. Firstly, the number of mortgage providers. An increase in the numbers of financial institutions offering mortgages will mean more opportunities for individuals to get a mortgage. The 1980's saw a growth in mortgage provision as the government deregulated the financial sector, allowing banks to provide mortgages along with building societies. House buyers found it easier to get a mortgage (derived demand) and were able to buy more houses. Secondly the conditions attached to taking out a mortgage. Many providers take into account the income of the buyer to determine the size of the mortgage advance. This is normally in multiples of the income. In the 1980's and 1990's the lending rules were relaxed enabling individuals to borrow larger sums of money (eg three times your income level rather than two). Also the requirements for large deposits were eased enabling individuals to get mortgages for up to 100% of the property values. These combined changes had the effect of making mortgages more available to wider number of people which enabled them to buy property. Thirdly, the government places stamp duty on house sales. It is a percentage tax, so that if the government raises stamp duty, buyers of houses would have to pay more and this could deter them from purchasing property.
Interest rates: once the mortgage is taken out, interest has to be paid. If interest rates rise, mortgage repayments go up and an opportunity cost is experienced. There will be less money to spend in other parts of the household meaning that it deters individuals from taking out mortgages in the first place. Conversely, as interest rates fall in the economy, householders will be able to afford the mortgage repayments and will be attracted to taking out mortgages enabling them to buy property.
Population trends: we would expect a rising population to lead to an increase in the demand for property. This to some extent will be influenced by their views on property ownership. Since the 1980's when the government introduced "right to buy" legislation encouraging council house owners to buy their property from the local authorities, more people have started on the housing ladder and prefer ownership than renting property. Also the structure of the population would affect the demand for housing. Rising divorce rates, increased one parent families and people living longer have led to an increase in demand for property.
Questions
What would happen to the demand curve for housing if these situations arose:
Individuals expect incomes to rise in the future
The MPC puts up interest rates because the economy is growing too fast
Marriage, rather than living alone, becomes more popular
The government announces that all new mortgage applicants must have a deposit of 25% to put on the property
The price of houses falls
The economy moves into a recession
Price elasticity of demand
We would expect the demand for housing to be quite inelastic in both the short term and long term. If you consider the determinants of PED, then several become important. Firstly, housing is a necessity and secondly, there a few if any substitutes for houses.
Research project
Collect data on average house price changes, interest rates, unemployment rates and income growth rates from 1985 to 2000.
Plot the data on a graph.
Identify which variable has the strongest effect on house prices.
Suggest reasons why this might be so.
What other factors need to be taken into account in your analysis?