House prices edged down 0.1% in August according to Nationwide causing the year-on-year increase to moderate to 2.1% which was the equal lowest rate (with May) since June 2013.

Housing market activity and prices are under pressure from the marked squeeze on consumers, weakened confidence and heightened caution over engaging in major transactions.

The downside for house prices should be limited markedly by the shortage of houses for sale. High employment and very low mortgage rates are also supportive

House prices look unlikely to rise by more than 2% over 2017. A small rise around 2% also looks likely in 2018

By Howard Archer, Chief Economic Advisor to the EY ITEM Club:

The Nationwide reported house prices edged down 0.1% month-on-month in August. This indicated that house prices still remain soft following gains of 0.2% in July and 1.1% in June, which had marked a modest overall rebound after prices had fallen for three successive months through to May.

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Annual house price inflation on the Nationwide's measure fell back to 2.1% in August, which matched May's lowest level since June 2013. It was down from 2.9% in July and 3.1% in June. Annual house price inflation peaked at 5.7% in March 2016.

House prices soft as housing market activity weak

Housing market activity is currently lacklustre amid weakened consumer fundamentals and fragile confidence. While the latest data from UK Finance showed that mortgage approvals for house purchases picked up to a five-month high of 41,587 in July, this was still not that far above the nine-month low of 40,385 seen in June (which had followed five months of slowing activity). Furthermore, at 41,587 in July, mortgage approvals were still 6.5% below January's peak level of 44,295. They are also well below the average monthly level of 52,261 seen during 1997-2017.

Outlook for house prices

House prices look unlikely to rise by more than 2% over 2017.  A small rise of around 2% also looks likely in 2018.

The fundamentals for house buyers are likely to remain weak over the coming months with consumers' purchasing power continuing to be squeezed by inflation running higher than earnings growth. Additionally, housing market activity is likely to be hampered by weakened consumer confidence and limited willingness to engage in major transactions. Indeed, GFK reported a further drop in consumer confidence in July to its lowest level for a year, with a decline in the major purchase index.

Housing market activity and prices are also likely to be pressurised by stretched house prices to earnings ratios and tight checking of prospective mortgage borrowers by lenders. According to the Halifax, the house price to earnings ratio reached 5.80 in December (the highest level since August 2007) and was still as high as 5.65 in July. This is well above the long-term (1983-2017) average of 4.19. Furthermore, mortgage lenders are under pressure from the Bank of England (BoE) to tighten their lending standards. 

The downside for house prices should be limited markedly by the shortage of houses for sale. High employment and very low mortgage rates are also currently supportive.  The RICS survey showed new instructions to sell fell for a 17th month running in July. Consequently, average stock levels on estate agents' books remained close to record lows.

There is a possibility that potential house buyers may also be concerned by the BoE indicating that interest rates could eventually rise more than the markets currently expect, although the likelihood of a near-term hike has seemingly receded. While any increase in interest rates would be small and mortgage rates would still be at historically very low levels, the fact that it would be the first rise in interest rates since mid-2007 could have a significant effect on housing market psychology by focusing minds on the fact that sooner or later they will have to deal with higher mortgage rates.

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