Underestimating Supply Constraints in the UK Housing Market

Date Published 7/26/2012
Author FTI Consulting
Country United Kingdom

Underestimating Supply Constraints in the UK Housing Market

July 23, 2012

Shelter, The Housing and Homeless Charity, commissioned a report from FTI consulting on the supply constraints in the UK housing market. FTI reviews the economic characteristics of the UK housing market, the extent to which the structure and industrial organization of the housing market differs from other markets, and whether there are features of the housing market that constrain the potential supply of new homes.

The report concludes that the supply of both private and public housing has, for decades, fallen short of the level needed to match increasing demand, and it has been particularly unresponsive (or inelastic) to increases in house prices. There are two main underlying factors that influence the level of housing supply and the responsiveness of supply to changes in prices:

-The fixed supply of land and the requirement to allocate this fixed resource between a number of economic and social uses i.e. the requirement for a planning system and the corresponding rate at which land is released for development; and

-The long lead times in the construction of housing.

While planning reforms may improve the position, they could only ever limit rather than remove the costs and constraints imposed on the availability of land. One of the key consequences of the risks and uncertainties created by the planning system is the business model and strategies that have been developed by house builders to deal with the risks and constraints imposed by planning and the risks associated with long lead times. As many commentators have argued, this places the acquisition and management of land at the core of their strategies, rather than house building itself. The planning system therefore not only constrains the supply of a key factor of production, but it also significantly distorts behavior in the market.

In addition there are further supply constraints that exist as a consequence of some of the strategies that firms have developed to mitigate these risks.

-Market structure and conduct, including the growth of larger and more dominant firms, competitive behaviour, the impact of vertical integration, the role of land acquisition and management, and market barriers to smaller entrants;

-Land, including the role of land banking and the role of incentives on development decisions;

-Access to finance, including the management of risk over the economic cycle and financing options available to firms; and

-Innovation and skills, including the constraints to investment in innovation and skills, whether a focus on land management has an impact on innovation, and the impact of skills shortages.   While the government is taking some action to address both the short term problems – including measures to stimulate demand – and longer term constraints – most notably through the reform of planning, the report recommends additional policy actions within the market framework:

-Promoting more competition between incumbents -Encouraging new entry and growth among smaller builders by:

o improving access to land – smaller firms could benefit if local authorities are required to allocate a certain proportion of land to smaller firms and new entrants. Similarly, a smaller firm and new entrant quota might be provided for public land that is made available for development. There should also be sites available for self-build homes.

o improving access to finance: Government might consider the application of its existing range of financial interventions (including credit easing and its loan guarantee scheme) to smaller building firms. If necessary, consideration might be given to the development of an intervention to promote access to longer term finance in the housing sector (in addition to the current set of housing specific finance interventions).

The government also needs to continually assess the impact and timing of new regulation. Polices to promote sustainability are clearly needed, but it is vital that competing policy aims are carefully assessed, and that the full implications of the policy are understood - as far as possible - before implementation, to limit unintended adverse consequences.

[Link to full report]

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