Mortgage madness

FOR all the horrors of British finance in the past five years, from bank bail-outs to sovereign downgrades, one of the biggest fears—a rush of defaults on mortgages—has yet to come true. The loans underpinning Britons’ homes, at £1 trillion ($1.6 trillion), are a big enough chunk of banks’ assets that mortgage-market distress could be catastrophic. But throughout the economic turmoil Britons have dutifully kept up their monthly payments, keeping banks’ mortgage losses low. Some worry that the fast-tracking of a new mortgage-boosting policy—Help to Buy—could unwittingly change all this.

Help to Buy is an unashamed housing-market stimulant. The scheme, first announced in George Osborne’s 2013 budget, and extended by David Cameron on October 2nd, targets the chunky deposit first-time buyers need. The median price of a property in Britain is £172,000 (in the South-East it is over £250,000). With bruised banks often limiting loan-to-value (LTV) ratios to 75%, a £43,000 deposit is needed—those receiving national median wages (around £21,300) may need to save for a decade. Under the first strand of Help to Buy, active since April, the government provides a 15% stake in property purchases on the condition that the houses are newly built. That cuts the down-payment required to 5%, or a more manageable £8,600.

The basic economic thrust makes sense. Rental rates are high in Britain, meaning punishing payments to landlords. Given that a mortgage can be cheaper, wider home ownership could put more disposable cash in Britons’ wallets. In an economy where private consumption accounts for four-fifths of spending cutting housing costs in this way is likely to boost GDP. And since this part of Help to Buy is tied to building, it should work even if the new nests end up in the hands of buy-to-let landlords: a bigger housing stock should drive down rents, and provide jobs for the workers that build them.

The problem is that Help to Buy has had an ugly extension tacked on. Originally planned for January 2014, but now to be active this month, the government will guarantee 95% LTV mortgages, shielding banks from 20% of the losses should a loan go bad. This breaks the link with building new houses, potentially boosting demand but not supply. That would put the government coffers at risk only to line the pockets of those that gain most from housing-market churn: estate agents and solicitors.

The prospect is unnerving, especially since the new part of the scheme may well distort banks’ incentives by driving a wedge between what they lend and the risks they face. With the housing market already rampant in London—up 20% annually in the trendiest parts of the city—and pepping up in the rest of the country too, Help to Buy is adding heat to a market that does not need it.

Yet the bigger problem is that as a short-term fix, even the saner part of the scheme is badly targeted. Mortgage approvals, while still depressed relative to the bumper pre-2008 years, are up. Credit-card lending is growing strongly, despite weak wages. But while Mr Cameron provides more support for personal loans, British firms show signs of credit starvation. Business credit is now 33% below its 2008 peak, once inflation is accounted for. It continues to fall (see chart). And despite the Bank of England’s efforts to keep rates low a recent paper by Kevin Daly of Goldman Sachs shows that the interest rates that small businesses pay are high.

That suggests government attempts to ease the flow of cash ought to be aimed at firms. First-time buyers would be better served by policies that boost affordable housing supply by making construction easier. But Britain’s builders complain that a painfully slow planning process prevents them from building at the rate needed to keep up with demand. That means a popped house-price bubble is unlikely soon. It also means the benefits of the Help to Buy subsidy may well be eroded as quickly as they are built up.