THE IMPORTANCE OF HOUSING IN THE UK
The housing sector is an important and influential part of both the microeconomy and macroeconomy.
Microeconomic effects
The housing market is a good example of how markets are interrelated. When houses are built, manufacturing activity takes place. To build the houses, resources are needed from the primary sector and when the properties are sold the services of the tertiary sector are needed. So any changes in building activity will have an impact on other sectors of the economy, eg when more new houses are built, supplies bricks need to be increased. When the property is sold, mortgages will be demanded, as will more household goods like carpets. So a busy thriving housing sector generates sales and profits for other sectors of the economy. It can also have an affect upon resource allocation in the economy.
Derived demand: when houses are built, more bricks are demanded,
Complementary goods: when houses are sold, mortgages are needed to purchase the houses, as are carpets and white goods like fridges,
Composite demand: land can be used for either building houses or commercial property. If the demand for houses rises, more land will be needed to build the houses. This reduces the amount of land available for commercial uses which could put upward pressure on land prices,
Incentive function of the price mechanism: when house prices rise, a signal is sent to construction firms to build more houses to boost profits as a result of satisfying increased demand,
market failure: the housing market does not operate smoothly, leading to a misallocation of resources, eg the uneven growth in house prices across the country makes it difficult for labour to move between regions,
Geographical immobility of labour: rising house prices in the south east of the country makes it difficult for workers in other parts of the country to buy property there. They therefore are unable to move and this reduces the supply of workers into the south east which can cause wage rates to rise in the area.
Macroeconomic effects
The operation of the housing market will have an effect upon macroeconomic variables like economic growth, inflation and unemployment. Usually the performance of the housing market is linked to the overall performance of the economy, eg when the economy is doing well, the housing market is strong, but when the economy goes into recession, the housing market suffers.
Wealth effects: when house prices are rising, the value of an householders physical assets are going up. This may encourage them to release some of the wealth to fund extra consumption. Alternatively if house price fall, householders become more cautious especially if negative equity occurs (value of the property is less than the mortgage owed on the property) and therefore save more and consume less,
Income elasticity of demand: the performance of the housing market is related to the trade cycle. When the economy is expanding and incomes are rising, the demand for houses will increase, ie the demand for houses has a positive income elasticity. This also means that in a recession as incomes fall, the demands for houses falls as well,
Multiplier effects: increased sales of houses and extra consumption can generate strong positive multiplier effects as related industries and shops generate more sales, which means that they will take on more workers leading to more incomes being earned and falling unemployment. Conversely, when the housing market is in decline, negative multiplier effects are generated,
Inflation: rising spending in the economy can generate demand pull inflation as consumption rises on the back of a strong housing market.
Current account: this increased spending can also suck in more imports which can lead to current account problems
Monetary policy: if the economy expands too rapidly on the back of a housing boom, the government's macroeconomic targets will be threatened (inflation target of 2.5%). The bank of England might be forced to raise interest rates to choke off the rise in prices. This can have an effect on business costs and borrowing which affects investment plans, household mortgage repayments and consumer spending.
The housing market is therefore very important to the economy. How it performs has major consequences for both the micro and macroeconomy. Government and the Bank of England have to find the right balance between keeping householders happy (eg rising asset values), industry (sales and profits) and the government itself (macroeconomic objectives and microeconomic performance).