Free Lunch Read Online Free

and ‘lemons’
     
    It would be a strange and rather sad meal if the guests sat around talking about potatoes, so let us return to house prices. Many people think that the unusual thing about housing, indeed, is the extent to which prices have risen over time. In the 1930s, while much of Britain was suffering in the Great Depression and prices for everything including houses were falling, a great building boom was under way in and around London, creating suburbia. New Ideal Homesteads sold three-bed semis in Sidcup, Kent, for £250, houses that would now cost you £150,000 to £200,000. Modern Homes sold rather grander properties in Pinner, Middlesex, for between £850 and £1,500. To buy one now would cost between £600,000 and £1m. These changes are dramatic but then plenty of things have increased in price over time. My first pint of beer (consumed at a very young age) cost the equivalent of 10 pence. Now it would be twenty times that or more. Inflation, the rise in the general price level, means that we look back with nostalgia at the prices we used to pay. All that has happened to house prices is that they have risen more rapidly than prices generally – they have outpaced inflation – and there is an explanation for that, which I shall come on to.
    What is unusual about housing, a peculiarity it shares with only a few other things such as antiques, fine art and vintage wine, is that its price rises even as you own it. Housing, to economists, is not just something you ‘consume’ – it gives you warmth, shelter and a place to sleep – it is also an asset. Contrast what happens to house prices with other, apparently very solid, products. Most fall in price, either because they deteriorate with use or become obsolete. Try selling a ten-year-old computer. It is well known that if you buy a new car, it will usually be worth about 20 percent less than you paid for it the moment you drive it out of the showroom. A famous article in 1970 by the economist George Akerlof, ‘The Market for Lemons’ – lemons in this case being American for ‘dud’ – explained why this was. In 2001 Akerlof was jointly awarded the Nobel Prize for economics. Any buyer being offered a nearly new car by its owner would immediately assume that there must be something wrong with it, that it is a lemon, and thus will not be prepared to pay anything like the full price for it. This applies even if the car is perfect. Only sellers really know whether a car is perfect or not, buyers can never really be certain. Economists call this ‘asymmetry of information’, but do not worry about the jargon. The effect, as Akerlof explained, was to drive down prices across the whole market. Buyers will tend to assume, unfairly perhaps, that all second-hand cars are ‘lemons’. And as long as this is the case, sellers have little incentive to sell good quality second-hand cars. Interestingly, the big car manufacturers have made an explicit effort to correct this lemon effect in the market by offering extended warranties on new cars and special guarantees on the second-hand vehicles sold by their dealerships.
    When we talk about the housing market, we are talking by and large about a second-hand market. New houses are built every year but their number is tiny, perhaps a 1 percent increase in supply in relation to the existing housing stock. The net addition to that stock each year, taking into account properties removed from the market by demolition or conversion into offices, is even smaller. Why, if most houses are second-hand, do they not suffer from the lemon effect? Some, it should be said, do. In the winter of 2000–2001 many parts of Britain suffered their worst flooding for decades. One immediate consequence, experts said, would be that properties in areas prone to flooding would become more difficult to sell, or only sellable at significantly lower prices, because people willing to put up with flood risk would require some compensation for