(Bloomberg Opinion) -- The pandemic shocks to the U.K. are showing up in all manner of ways. But one of the hardest to resolve will be the red-hot residential rental market.
With more than 28 applicants circling each property available for rent — an all-time high according to Propertymark, the membership body for property agents — this is a dysfunctional marketplace. Estate agents have an average of only five properties to offer, and some branches have none at all. Rents across the U.K. have surged more than 10% over the past year as pandemic restrictions have fallen away.
Renters' predicament has been exacerbated by blunt government actions prompting many private landlords to exit the market without offering enough state-sector alternatives to make up the difference. No wonder the U.K. is struggling to house Ukrainian refugees. Demand is overwhelming a long-term structural lack of supply.
The issue in the private rental sector is twofold: Stringent planning restrictions have limited the construction of new homes and most of those are for owner-occupiers rather than renters. At the same time, the existing supply of rented homes has shrunk as landlords leave the sector, pressured by increased taxation and regulation.
Landlords' cost have increased significantly since 2016. Smaller landlords are now unable to offset all their interest expense against any profit they make, unlike larger landlords who operate as limited liability companies. Landlords also pay an additional 3% stamp duty surcharge (a purchase tax) on new acquisitions. And should they sell, they pay capital gains tax, but at a rate 10 percentage points above any other asset.
The regulatory burden is significant too. Local authorities, themselves facing a financing squeeze, have increasingly turned to rental licensing schemes to raise extra revenue. In a typical London borough, a license will cost anything between 700 pounds ($920) and 5,000 pounds per property.
It has also become more difficult to evict tenants. That was necessary during the pandemic, but for many landlords, the costs of being unable to evict unruly and insolvent tenants have been prohibitive.
What's more, in 2028, it will become illegal to rent out a property with an energy-efficiency rating of less than C on the government's Energy Performance Certificate (EPC) scale. That's a laudable aim, but the cost of insulation upgrades alone is likely to amount to around 8,900 pounds per property. Other measures to ban the installation of gas boilers in favor of heat pumps, which can run anything from 6,000 to 18,000 pounds, will meanwhile increase the bill for landlords. And the way energy efficiency is calculated, there's no guarantee that either change will sufficiently improve a property's EPC rating.
While many of these measures are popular with tenants and the general public, they have had a rather predictable impact on the supply and costs of renting a property.
Initially, lockdowns had a depressive effect on rental levels. Rents in London fell by 7% between March and December 2020, due to the mass exodus from the capital in search of more living space. Since then, however, there has been a surge in demand and London rents have risen nearly 20%.
A phalanx of young workers who were either on furlough or living with parents are now being asked to come back to the office. They need decent housing in relative proximity to their work. But the London rental market to which they are returning is a very different place. Securing a tenancy requires much more effort now, including not just proof of deposit but security of income, often including a guarantor, and a multi-year lease agreement.
Higher rents go hand-in-hand with runaway property prices. But the failure to secure your dream home is one thing; not having a decent place to live is quite another. This is the sharp end of Britain's cost-of-living crisis.
And it's not just in the big cities such as London. The most extreme imbalances are in areas like the northwest of England, the Midlands and Wales, which are also where property prices have risen fastest — as much as 15% in the past year. The average age of the first-time homebuyer has risen to 34, a gain of six years since 2007. That's no surprise considering property prices have gone up from a long-term average of four times wages around the country to eight times, and as much as 13 times in London.
Things are bound to get worse before they get better. The government estimates an additional 1.8 million new households will be created in the next 10 years. That means private rental-sector supply will have to increase by 227,000 units a year to meet government targets, according to Capital Economics, an independent macro research consultancy. Yet residential investment accounts for just 4% of U.K. gross domestic product, one of the lowest percentages in the G20.
One silver lining perhaps: Although any increase in rents is unwelcome, rents had been falling as a percentage of median income since 2017. On that basis, they are at their most affordable since 2005. The latest squeeze, however, threatens to reverse the trend.
It seems that as much as people dislike private landlords, they are beginning to discover that the alternative is worse. The government better think hard about solutions before this crisis upends its prized “leveling up” ambitions.
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This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Marcus Ashworth is a Bloomberg Opinion columnist covering European markets. He spent three decades in the banking industry, most recently as chief markets strategist at Haitong Securities in London.
Stuart Trow is an investment strategist, most recently at the European Bank for Reconstruction & Development. He is a financial coach, co-host of “Money, Money, Money” on Switch Radio and author of “The Bluffer's Guide to Economics.”
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