577: UK Heading for Recession - Brexit Update
Confidence Evaporated: The Bank of England are currently struggling to assess whether the UK is currently in a recession or not. What is clear is that confidence has evaporated – business hate uncertainty and that’s exactly what the UK voted for in June. The last Q2 growth figure was a healthy 0,6% for the quarter, but only one week of the quarter was after the Referendum vote 23 June 2016.
Sterling Decline: Sterling has dropped sharply from 1.47 to 1.31 £/$ which will drive up import costs and help export competitiveness. However, we can expect significant inflationary pressures to build up rapidly from mid-2016 onward as import costs rise by about 15%. Prices at the shops will probably rise by 3-5%.
Stagflation: As the economy slows down, this will lead to a further bout of “stagflation”. This is when growth stalls and inflation takes off. Because of the weakening Sterling – the Bank of England will be reluctant to reduce interest rate because this could lead to a further decline in Sterling’s value. Furthermore they will be very concerned of the impact of a drop in interest rates on bank profits and viability. Also, any further drop could fuel inflation. If inflation rises from say 0.5% to 3% in the next 8 months – it’s tough for the Bank of England to lower rates when inflation is not properly under control and above the Bank of England target of 2%. It might surprize some, but we don’t think the Bank of England will be able to drop rates – they just have not communicated this yet. Even if we drop into a recession – inflationary pressures would not allow this.
Import Costs Rising: If Sterling continues to decline sharply this will definitely add to the UK’s woes – because import costs rise and inflation would rise even further. This could even lead to a viscous circle – where confidence disappears on Sterling and the UK economy. Property investors and then general public should wish for higher Sterling values not lower – we will all see the consequences of a declining Sterling in rising prices, not matched by wage growth.
Goldilocks Over: The goldilocks economic performance of the last two years has just ended with the Brexit vote – with Sterling’s decline, a likely start of a recession – then we will see rising prices, stagnant wage inflation as unemployment starts to rise. Further net migration into the UK will also keep a lid on wage inflation as the lower to mid-level jobs have plenty of candidates, and worker wage negotiating powers is negligible.
London: The initial impact of Brexit is likely to be felt in the higher end of the property market in London where the biggest price growth has been. However, like a ripple it should then start to fan out to other areas further afield.
Interest Rates: If mortgage rates and interest rates stay low, and employment fairly strong despite Brexit uncertainties, then property prices could normalise and be fairly stable. The concern is either far higher unemployment and/or a rapid further decline in Sterling that would then perversely force the Bank of England to actually raise interest rates to defend Sterling. This would then precipitate a house price crash across the board.
Too Early: Its currently too early to tell how the economy will fair in the next few months – certainly confidence has evaporated. House transactions have crashes, but levels of new homes being put on the market have also crashed. Hence the supply and demand situation has not changed significantly in most areas. Indeed, Brexit is likely to lead to a far lower level of building because confidence will be low – less people willing to risk putting capital into building. Meanwhile, realistically immigration levels will not reduce significantly and net migration is not expected to rise sharply either. We can therefore expect a continues tight market for property as an expanding population fights over small numbers of properties coming onto the market.
Taxation Hit: The increase in stamp duty – particularly for properties over £300,000 in value – plus the extra 3% for second homes is likely if anything to encourage people not to sell or trade because stamp duty is so high. They are likely to hold property and extend – down, up or to the side. 2 bedroom homes will become 3 and 4 bedroom homes – why give the government £30,000 in stamp duty when you can invest this amount in a loft conversion of basement conversion – this is particularly true in London of course.
Housing Crisis to Worsen: The punitive and draconian new taxes on buy-to-let will shut off a lot of rental property investment and lead to an ever tightening of the rent market – rents are likely to rise sharply as less buy to let investors are in this market. Councils and housing associations will have no money to increase their housing stocks and the increasing number of migrants and locals needing rental property will drive rents up in all areas where the local economies are doing okay – namely major cities like London, Birmingham, Leeds and Manchester.
Trends: A few trends will start to become apparent – playing out in the next ten years – as these draconian taxes measures start to bite:
• People will move even less – to avoid stamp duty
• Lofts will be converted
• Basements will be dug out and/or converted
• Houses will be split into smaller units
• Properties will be extended
• Instead of buying further properties and paying stamp duty (and not getting mortgage tax relief) – existing buy to let investors will give deposits to their different offspring to buy their first properties (no 3% stamp duty) – then then spare bedrooms of these homes will be rented to lodgers using the £11,000 tax free threshold for their offspring
EU Funding: The lack of EU funding and regeneration funding will particularly affect rural areas – and those areas in the north and west – those areas that actually voted to leave. An example of massive EU funding was the £450 million spent on Swansea University in the last few years – this city voted for Brexit – such funding will dry up completely.
Tourism Boom: The only bright light we can think of for the Brexit is tourism in London and Cornwall-Devon. Sterling’s decline and see a big increase in continental European tourists coming the Britain. They are likely to visit southern England – London and Cornwall being the key hotspots. Hence holiday rental in Cornwall should perform well – which could help to offset the negative impact of the 3% stamp duty taxes on new second home and buy to let purchases.
European Project Uncertainties: If the European Project stays on track and does not implode – then the UK economy is likely to slide to lower growth levels similar to the European continent – in the long term range 1.5-2%. But it’s possible the European EU project will implode – the whole thing disintegrate – and if this happens, the UK will be seen as a safe haven from bad bank debt and high unemployment on the continent in countries like Italy, Spain, France and Greece.
2016 Uncertainties: The latter part of 2016 will see some critical elections – firstly in the USA then also in Germany. These along with Brexit will help shape what the world looks like in the next five years and we can understand how business confidence has dropped and many people feel we are in a recession already with all the uncertainty around. Not really a good time to be investing in property in the UK – at least until things become clearer end 2016.
We hope this Special Report has give you some interesting insights and helps shape your investment strategy. If you have any queries, please contact us on firstname.lastname@example.org