Britain's Housing Woes Lead to a Recession

LONDON—The sneezing began in America, but the United Kingdom may become the first western economy to catch a real cold. It's facing a recession brought on by the ongoing global credit crunch, which was ignited by the U.S. subprime mortgage crisis.

Cars drive down residential streets in Newport, Wales.

And what was billed as a dramatic government stimulus plan for housing was received as little more than a political sop intended to help the popularity of the Labor government, which is tumbling along with home prices.

The betting is both have further to fall.

The Organization for Economic Cooperation and Development this week issued a forecast that Britain's economy will be contracting throughout the second half of this year—a conventional definition of recession is two quarters of negative growth—and that gloomy news pushed the sinking British pound even lower against the dollar and the euro.

The OECD offered only slightly less bleak forecasts for other key European nations, such as France and Spain, also hurt by falling real estate and slowing industrial activity.

Britain is already reeling from its worst housing crisis in 30 years. House prices are down 10.5 percent this year, and economists say the market's bottom is nowhere in sight.

Along with that painful news, inflation is high, too. At 4.4 percent, it's more than double the government's target level of 2 percent, which makes it harder for the Bank of England to cut interest rates to stimulate growth and boost the moribund housing market.

That toxic stew of economic news seems destined to feed the popularity decline of Prime Minister Gordon Brown and his Labor government.

Brown's poll numbers began slipping well before the housing market crash, but now they're in free fall. One recent survey found 46 percent of Britons want Brown to resign. "Faith in the Labor government has gone past the tipping point," says Martin Boon, associate director of polling firm ICM.

The Brown government wasn't helped when its chancellor of the exchequer (finance minister), Alistair Darling, warned that Britain was facing its worst economic turmoil in 60 years. Even economic hawks thought that assessment was an overstatement—one that could further erode business and consumer confidence. So far, however, Brown is ignoring calls to fire Darling.

Instead, Brown sought to inject new life into his political career and the housing market this week with a package of measures he said was part of an effort to "do everything we can to keep the housing market moving."

Homeownership is a cornerstone of British culture. So when mortgage approvals are down 71 percent for the year, and when 45,000 Britons face repossession of their homes by year-end, it rattles the national psyche.

Brown's central offering was to abolish the stamp duty—a mortgage sales tax of 1 percent—on homes that sell for $309,750 or less; previously, only homes selling for less than $221,250 escaped the duty. The government will also offer interest-free loans for five years to some first-time buyers.

Not surprisingly, political rivals were not impressed.

The Conservatives called it a "short-term survival plan for the prime minister rather than the long-term economic plan the country needs." The Liberal Democrats called it a "hotchpotch of measures thrown together to save Gordon Brown's political skin."

And editorial writers—in newspapers across the political spectrum—were equally scathing. Both the Times of London and the Financial Times said it was a mistake to intervene in a slumping housing market and to imply there was anything a government could do to stop tumbling house prices.

That's also the conclusion of Diana Choyleva, an economist at Lombard Street Research. Brown's measures "won't work," she says, "and that's the good news." The sooner the U.K.'s overpriced housing market falls, the faster an economic recovery can occur, according to Choyleva. "This is a necessary correction," she says, adding that it's a mistake to bail out irresponsible banks and buyers who created the mess.

That prescription of bitter medicine is not one that Britain (nor, for that matter, the United States, which is also grappling with a falling housing market) wants to hear. And it's certainly not one already unpopular political leaders are likely to endorse—at least not publicly.