Broke: Who Killed the Middle Classes?

Now, you need double the average national income to buy a two-bedroom flat in Tower Hamlets in the poverty-stricken East End of London. As I write, average house prices in London are around £408,000, over fifteen times the average income. Anyone buying a house in the capital for the first time will need to cobble together a deposit of £100,000 and still have a salary of over £87,500 to get the mortgage.

No wonder there are 800,000 people in London waiting for affordable or social housing.

I am acutely aware now that my 1986 purchase (£45,500, which I eventually sold for £225,000 two decades later) was also a kind of lifeline. If I had bought ten years later, certainly twenty years later, I would now be paying ruinous monthly mortgage interest payments which would seriously restrict my choice of what I want to do in my mid-fifties. I would be forced to concentrate on the handful of jobs that would allow me to earn enough to service my mortgage, assuming I could find one.

Of course, there is a range of experimental shared ownership schemes on the market – part rent, part mortgage. These make buying a home just a little easier, though they are few and far between. Ironically, these are very similar to the Homebuy schemes of the early 1970s, which were used as evidence back then that the domestic mortgage market was too restricted. Now it isn’t restricted at all – if you have a deposit – and we are back to square one.

The Conservatives having won the election in 1979, Howe moved into a second-floor office of the Treasury, which was carpeted throughout, under the Treasury’s exemplary and parsimonious regime, in red lino. There was a plaque above his desk explaining that the Air Council had met there throughout the war. There is some irony in knowing that Howe’s decisions were taken in the very room where they had planned the carpet bombing of German industrial cities four decades before.

Howe was a peculiar mixture too. His bank-manager spectacles and quiet speaking style gave him the appearance of caution. His long-term Labour opponent Denis Healey nearly ruined Howe’s career, during a Commons spat, by describing himself as having been ‘savaged by a dead sheep’. This belied the reality. In fact, Howe was a serious radical, according to the political columnist Edward Pearce. ‘If you listened to Sir Geoffrey for his oratory, you would hang yourself,’ he wrote. ‘The man is absinthe masquerading as barley water. Like the good lawyer he is, Sir Geoffrey uses tedium like cuttlefish ink to obscure the news.’

Lawson, the new Chief Secretary to the Treasury, was rotund and frighteningly confident. Together, they made hay of the old guard at the Treasury. The permanent secretary Sir Douglas Wass was sidelined and new advisers were brought in.

The key problem, as the Bank of England governor Gordon Richardson explained within days of the election, was how to bring down the value of the pound. The unspoken assumption was that doing so in the wrong way threatened a disastrous run on the currency, but Richardson’s remarks seemed to the revolutionaries like the green light to lift exchange controls. Howe, Lawson and Ridley met at the Conservative Party conference in October and decided there was no middle way. They would go ahead and stop controlling who could take money out of the country.

All they had to do was persuade Margaret Thatcher. Again, later reputations are not a very good guide for understanding the time. These were the days before ‘Thatcherism’. The trio of revolutionaries were still not quite certain of her support for economic deregulation. They knew that, when Edward Heath was leader, she had opposed the sale of council houses and anything else which risked raising mortgage rates. What they did know for sure was that, whatever happened, she was on the side of the middle class. The Conservative manifesto had promised ‘to support family life, by helping people to become homeowners’. There had certainly been nothing about deregulating the mortgage market. Only weeks after the election, she was writing notes to Howe: ‘I am very worried about the reports in today’s press that mortgage rates may have to go up within days. This must NOT happen. If necessary, there must be a temporary subsidy.’

The very last thing Howe and Lawson wanted was a subsidy, temporary or otherwise. They had set their faces against any such thing. There was a gap between the Prime Minister’s absolute commitment to middle-class homeowners, and their convictions about economic change, which is directly relevant to house prices today. Political mythology suggests that it was Lawson who persuaded Thatcher that a ‘property-owning democracy’ required people to go into debt – which definitely meant changes to the mortgage market. Maybe that conversation happened at the same party conference. No one is saying.

What we do know is that she was persuaded.

What the revolutionaries didn’t do was talk to the cabinet. ‘Do you know,’ Howe told a dinner party a few weeks later, ‘there hasn’t been a single economic discussion in the cabinet since this government came in.’

That wasn’t strictly true, but it was quite right that the cabinet was never consulted about the end of exchange controls. They were informed. The critical moment came about mid-morning on 25 October 1979, when Howe explained to the cabinet what he was about to announce. Mrs Thatcher was apologetic, recognizing that ‘some other members of the cabinet might have liked to have an opportunity of expressing their views before a decision was taken’.

Only one voice was raised against. The then Environment Secretary Michael Heseltine warned that people might respond by taking their money out of the country to buy villas in France. But, again, we only have Lawson’s word for this.

Howe and Lawson had calculated that, despite the worst fears of their critics, there would be no catastrophic outflow of funds, nor a collapse in the value of the pound – for the same reason that the economy was in crisis. Because of North Sea Oil, the pound was now a petro-currency. So they took a deep breath and hoped for the best. The announcement was made and, to their surprise, the pound kept on rising. It carried on doing so until Britain’s exports were unaffordable abroad and UK manufacturing industry staggered, and – hopelessly outdated, under-invested and beset by insane labour relations – all but gave up the ghost. But that, as Kipling might say, is another story.

The decision to abolish exchange controls was a defining moment for the rest of the planet, which rapidly followed suit. It cleared the way for the modern world, where national spending decisions are kept in check by the vigilance of global money markets which can, and do, bankrupt nations overnight. The huge bureaucracies of exchange control were certainly hard to justify, but then so are some of the results of their disappearance. As much as $4 trillion a day now churns through the world financial system, most of it foreign-exchange speculation. It is a terrifying, uncontrollable and largely unpredicted force in modern affairs.

But Howe had also made a brave and imaginative decision. He and Lawson wanted financial discipline and some encouragement for British companies to invest abroad, and they got it. Those involved in the decision to end exchange controls made a special tie to commemorate it, which said ‘EC 1939/1979’. Lawson wore the tie later to deliver his budget speeches when he was Chancellor himself. ‘It was the only economic decision of my life that caused me to lose a night’s sleep,’ wrote Howe later, ‘but it was right.’

What makes the exchange-controls decision important here is that it made the controls on bank lending impossible to sustain. Sooner or later, overseas banks or offshore branches of UK banks would start bypassing the Corset. Sooner or later, the Bank of England feared, they would start lending money for mortgages and push up the price of houses.

So it proved. Fast-forward nearly three decades, and there was Sebastian Cresswell-Turner writing sadly in TheTimes about the discovery that he could no longer afford the life his parents had. ‘The poor aren’t the only ones who are getting poorer,’ he wrote, describing the effects of twenty-seven years of accelerating house prices. ‘Whole swathes of the professional classes are too’:

An unmarried and badly paid knowledge worker, I live in a rented room in Hammersmith and have no hope of ever buying a home anywhere. Indeed, when I return to the agreeable parts of central London that I know so well from earlier periods of my life, I realise that I am looking at the attractive stucco houses in just the same way that a tramp looks through the restaurant window at a group of people enjoying a carefree meal. I am effectively an exile in the city where I was born.

When Howe became Chancellor, and despite the two blips during the 1970s, house prices were being kept low by another strange institution that the Corset made possible. This was the building societies’ ‘Cartel’. Because the banks were kept out of lending people mortgages, the building societies were allowed to get together and keep interest rates much lower than they were in the mainstream lending market. They were only allowed to lend out money that people had deposited with them. Because of this, mortgages often had to be rationed. There was a waiting list, sometimes for months. It was inconvenient, and it is hard to imagine mortgages being rationed these days, but to some extent it worked.

The Cartel was presided over by a joint committee of building societies, regulators and ministers, whose task was to set an interest rate low enough to keep the house builders building, but high enough to stop house prices rising. The first step in its demise was when Lawson, as Chief Secretary to the Treasury, refused to provide new guidelines for an interest rate. He said afterwards that he didn’t realize he had to. Without the interest-rate guidelines, there was no point in a Joint Advisory Committee.

‘It was the first step in what was to become a far-reaching programme of financial deregulation, with consequences – some of them wholly unforeseen – which were to have a major impact on the course of the economy and the conduct of policy,’ said Lawson later.

The joint committee limped on until 1984. Once again, it all depended on the Corset and – now that exchange controls had gone – the Corset could not stand. For months, the stockbroker Gordon Pepper had been saying so. The new ministers set great store by Pepper and copied his speeches to each other. Peer into the cabinet papers of the day, now they are publicly available, and you find Pepper’s speeches everywhere.

The pressure was also on from the Labour opposition. Denis Healey rose in the House of Commons, only three weeks since exchange controls were lifted, taunting Howe about giving people the ‘unhappiest Christmas ever’.

‘How long will he and his colleagues allow the nation’s eco-nomic prospects to be ruined by a bunch of bumbling doctrinaires?’ Healey went on. The Labour benches roared their approval behind him. Then the killer blow.

‘Why on earth has he kept the Corset still in place when it is well known throughout the banking community its worth is useless now that he has abolished exchange control?’

Even the Wilson Committee, Harold Wilson’s final act in frontline politics, and packed with trade unionists, recommended that it should go. So did Lord Young of Dartington, the author of the 1945 Labour manifesto, who urged its abolition in a letter to TheTimes.

But there was another consideration. The new cabinet was determined to expand the homeowning classes by selling council houses to their tenants. It was a bold and populist move, designed also to tackle the patronizing record of the big cities in designing and managing council housing – but implemented disastrously (the money earned from the sale just sat there, and wasn’t used to build new low-cost housing). For tenants to buy their own homes, even at discount rates, the means to borrow the money had to be available to them.

There was really no contest, and Howe gave the Corset six months and confirmed the deadline in his budget speech in March 1980, an event that was threatened by the loss of the famous battered red budget box at the Treasury. The box turned up at the last minute and Howe rose to deliver what the Labour leader Michael Foot called a ‘no hope budget’.

‘The Governor and I have agreed …’ he said. The Labour MPs opposite roared with laughter. For a moment, it sounded as if this was a peculiar and deferential way of referring to Margaret Thatcher.

Howe kept his cool. ‘I am referring not to any foreign or outlandish figure but to the Governor of the Bank of England. We have agreed that the supplementary special deposit scheme – generally known as the Corset – should not be extended beyond mid-June, when the present guideline ends. One of the effects of the Corset has been to encourage the development of credit channels just outside the banking system …’

This is certainly true. Once exchange controls had gone, there really was no way under the system as it was then to prevent money from abroad flooding into the UK property market. It certainly did, which is some explanation why 900,000 more households are renting in the UK than they were in 2005.

It also explains why Britain now lies behind Romania and Bulgaria for its percentage of homeowners, and why only half of London’s homes are now owner-occupied.

It explains a little why London is rapidly shifting from property-owning democracy to a city of supplicants to the whims of landlords and rental agents.

There are many people who might welcome that kind of shift, towards a society less obsessed with owning our own homes. But renting is really no escape from high house prices, because they feed straight into high rents, and a third of all mortgages in 2006 were for buy-to-let homes. The cost of servicing a mortgage provides a kind of basic floor for rents too, which is why so many people in successful jobs remain trapped in flatshares, sharing the bathroom, well into their thirties and probably beyond. The newspaper columnist Owen Jones complained on Twitter about London rents (£1,000 a month for a two-bedroom house in inner London). Hundreds of people responded with their own horror stories – a 35 per cent rent hike imposed after Christmas, a couple who had to abandon their ‘tiny flat’ in Zone 3 after their monthly rent went up from £720 to £950.

A recent report by the National Housing Federation predicts that average London rents will rise by 50 per cent, to over £2,000 a month, within ten years, that the average London home will rise to £688,000 by then too.

Nobody believes that average wages will match that rate.

It is easy to blame the landlords for this, and there is certainly greed and opportunism involved, but the real difficulty is that the level of rents depends on the level of mortgage repayments. That is what landlords need to charge to pay the mortgage. It isn’t enough to condemn our ‘addiction’ to property ownership (actually, I don’t have a problem with people owning the place where they live), but the costs of private renting are actually driven by high house prices in just the same way that mortgages are.

So when it comes to imagining how our children will house themselves, it isn’t enough just to abandon home ownership. Private renting will make them just as dependent on high house prices, without the independence that ownership brings – miserably dependent on the whims of landlords, forced to move constantly, without the local roots that their own children – anyone’s children – need. If independence is the new hallmark ideal of the middle classes, it is hard to see how it can continue except for the few – the only children who inherit, the children of those in financial services, the heirs and successors of the One Per Cent.

Were we dreaming when we allowed our hearts to leap at the signs in the estate agent’s window? When we cashed in the rise in house values with loans to fuel the consumer boom? When we got so into the habit of using loans to fund holidays and buy cars that outstanding household loans have tripled in the last decade (or worse, when we used the extra money as collateral to become Lloyd’s Names)? How did we get sucked into the phenomenon of the Emperor’s New House Prices, when we dared not criticize their inexorable rise for fear they might fall again?

Certainly the whole phenomenon took the Treasury by surprise. None of their econometric models showed how rising housing wealth fed into consumer loans and debt. Nor did house prices behave in the same way uniformly across Europe (in Germany, they have barely moved for a generation). We knew all that, but we still cheered. It took an intelligent commentator like Martin Wolf of the Financial Times to break the log-jam. ‘It is mad to applaud ever rising prices,’ he wrote in 2008.

And so it is.

It is also easy to blame the revolutionaries in the Thatcher government in 1979 and 1980. The decision to end exchange controls made the demise of the Corset and Cartel inevitable too, and you might argue that the cosy world of the building societies in those days – refusing to lend in some neighbourhoods or to single women – sealed their fate. But the real blame has to go to the middle-class cheerleaders of rising house prices. It was their nest egg, their early retirement guarantee, as unprecedented wealth flowed from their parents through to them. They did not stop to wonder – and I was the same – whether it might stop flowing, and what it would do to their children’s lives if it did.

The debate was complicated right from the start by a rapid rewriting of history. Some months after these fateful decisions, Lawson was boasting to Swiss bankers about the huge success of the end of exchange controls (‘highly successful in every material respect’) and getting rid of the Corset too:

With the wisdom of hindsight a strong case can be made for the proposition that we should have followed our original instinct and announced its abolition immediately on taking office, a year previously: a thermometer which gives a false reading, however flattering, is no use to anyone.

History was already being rewritten to make the decision an obvious one, whereas it had actually been far more difficult than that. As we have seen, once the Corset had gone, there was nothing to prevent the banks dashing into the mortgage market and pushing up house prices as a result. Horribly burned by the Latin America debt crisis, they were desperate to lend money somewhere. The UK housing market looked like a good bet, especially for American lenders borrowing money on the wholesale markets. All that now held them back was the building societies’ Cartel.

The first sign of trouble for the Cartel came within days of the 1980 Budget speech. It became clear that NatWest was setting up a home loans unit to start as soon as the Corset was dead. Lloyds Bank was also dipping its toe in the mortgage market with the intention of ‘picking up the top end of the market’, according to their domestic banking manager.

Lawson laid into the building society chiefs in an address to their conference at the Bournemouth Winter Gardens, but they were not keen to struggle against the world’s most powerful financial institutions. ‘I don’t think a return to the jungle is in the national interest,’ said Building Societies Association chairman Leonard Williams.

For two years, he led the building societies into battle with the banks – aware, to start with, that the banks were tending to pick up custom initially from the people the building societies turned down as bad risks. But in the long run, it was an unequal battle. The days of mortgage rationing were over.