Do house prices go down in a recession? What happens to UK property market, will prices drop and 2023 forecast

After months of speculation, it now appears that the UK is indeed either in or about to tumble into a recession. It could even turn out to be the worst recession of any ‘developed’ country, according to the OECD.

Despite economic growth bouncing back after the Covid pandemic, the rate has slowed considerably in 2022 as a result of the cost of living crisis and the energy crisis.

Record inflation has forced consumers to reduce their spending, while businesses have faced rapidly rising costs as a result of supply chain bottlenecks and soaring gas and electricity bills.

Interest rates intended to combat inflation have added extra pressure, as they have made it much more expensive to borrow money. Mortgages have become pricier, while some high-profile firms - including Joules and Made - have collapsed under this pressure.

Both the Bank of England and the Office for Budget Responsibility (OBR) have indicated that they now expect the UK economy to decline for at least the next 12 months.

But what impact does a recession have on house prices - and how could the housing market look in 2023?

Do house prices go down in a recession?

While it is by no means guaranteed, property prices tend to fall during recessions. In the last major recession in 2008, they tumbled by 15%, according to the Land Registry, before bouncing back fairly rapidly.

There are several reasons why the UK housing market struggles during these periods of economic turmoil.

Firstly, recessions tend to lead to an increase in unemployment as firms become more likely to scale back their operations and investment in growth (or, in other words, job creation). Additionally, pay rises are also harder to come by.

If your job is on the line or you’re struggling with the cost of living, you are unlikely to be looking to buy a property (and mortgage lenders may be less inclined to let you borrow money) - so, demand for homes tends to fall in a recession. When demand falls, prices are likely to follow.

It could also become harder to move house if your home’s value falls below the value of the mortgage - something that can happen if you’ve only been able to put up a small deposit for your property. Should this happen, you will find yourself in negative equity - a status that can be a sizeable barrier to buying a new home.

Given the majority of property transactions take place between existing homeowners, these two factors alone are enough to see prices drop.

Falling house prices could be a good thing for first-time buyers as they may need less of a deposit and a smaller mortgage. But if these buyers are exposed to the prospect of unemployment or are struggling with the cost of living, they too will struggle to get on the property ladder as these conditions make it harder to raise enough of a deposit.

While house prices tend to drop in recessions, there has been one recent recession where this scenario did not come to pass.

The UK was technically in a recession during the Covid pandemic. National lockdowns meant the country’s GDP went into reverse as only key industries were allowed to operate.

But normal recessionary behaviour did not apply as the furlough scheme meant wages remained fairly stable for many, with some even finding they were able to save a significant amount of money as everyone barring key workers were stuck in their homes.

Meanwhile, then-Chancellor Rishi Sunak’s stamp duty holiday gave the housing market a huge boost in 2021. It meant prices actually rose significantly despite there being a recession.

Will house prices fall?

While no one really knows exactly what will happen to house prices in the coming weeks and months, we are already seeing signs that they are going down. But it’s vital to remember that they are still growing compared to last year and remain near record highs. Several house price indexes (HPIs) have shown this autumn that house price growth is weakening.

The Rightmove HPI, which is one of the best trackers of current asking prices (and therefore market confidence), showed property prices fell 1.1% in October compared to the previous month, but remained 7.2% higher than in October 2021.

Meanwhile, the Halifax HPI - a yardstick of prices as they are at the mortgage application stage - showed a 0.4% price drop in October, with annual growth now sitting at 8.3%.

While these findings are equivalent to shaving a few thousand pounds off asking prices, the biggest concern will be the drop in demand seen in both HPIs. Rightmove said it has seen first-time buyer activity drop 26% year-on-year (although it remains 7% higher than in 2019). Halifax did not give a figure but recorded “declining” demand for mortgages.

At the same time, HMRC figures showed that the volume of property transactions had grown 2% month-on-month, with 108,480 sales taking place. This marked an increase of 38% compared to October 2021.

However, Sarah Coles - a senior personal finance analyst at Hargreaves Lansdown - said these sales were “largely agreed around July”, suggesting they were not an up-to-date reflection of demand.

“Home completions sailed a steady course through October, but the looming storm is likely to sink sales,” Ms Coles said.

“October saw carnage unleashed in the mortgage market, but buyers, with much lower mortgages already in their back pocket, continued to plough on. It means October sales were still slightly above pre-pandemic levels, but this is the relative calm before the storm.”

The reason why commentators think this recession is especially likely to see a downturn in property prices is down to the cost of living crisis and the lingering impact of Liz Truss and Kwasi Kwarteng’s disastrous mini budget.

The cost of living, which has been driven up by record inflation, has eroded wages. It has also led to a big hike in interest rates, which was already pushing mortgages up by the time of the mini budget.

But Kwasi Kwarteng’s speech sent mortgage hikes into overdrive, as the series of inflationary tax cuts were amplified by the markets abandoning the pound - something which led to fears about how high interest rates could go. The way government debt works also contributed to mortgage rate rises.

While the situation has stabilised thanks to a reversal of much of Liz Truss’s economic agenda, mortgages are still hovering around the 6% mark - roughly 1.25 percentage points higher than where they were before the fiscal event on 23 September.

At the same time, there are reasons why prices might not go down by much. Speaking to NationalWorld before the autumn statement, HomeOwners Alliance CEO said the low supply of homes on the market could support prices.

“Given increases in the cost of living, higher mortgage rates and stretched affordability, we expect buyer demand to continue to fall in the months ahead,” she said.

“In the near term, house prices will remain underpinned by a shortage of homes for sale. Those with agreed deals are likely to press ahead, but others who are thinking of moving may delay their decision in these uncertain times or find that they can no longer afford to move.”

Chancellor Jeremy Hunt’s decision to scrap his predecessor, Kwasi Kwarteng’s, real-terms stamp duty cut in March 2025 could also support prices as, in theory, people will aim to complete their property purchases by then.

Lucian Cook, the head of Savills residential research, said: “Time-limiting the previous change to stamp duty thresholds will offset some of the pressures on housing transactions over the short term, particularly as the deadline for change approaches in March 2025.

“But while we should never underestimate the ability of stamp duty measures to distort the market, this time around the higher costs of debt will undoubtedly constrain that effect.”

In its initial reaction to the budget event, Zoopla said the future move would “make it increasingly difficult” for first-time buyers to get on the property ladder, especially in London and the South East - areas that “account for the majority of stamp duty receipts”.

What could happen in 2023?

While most people are convinced house prices will retreat to at least some extent over the coming months, the big question is what we can expect in 2023.

At present, we have two major indications of where things will go. These are from independent public bodies the Bank of England and the OBR.

• Bank of England

The Bank of England gave its most up-to-date verdict on the direction of travel in its Monetary Policy Committee report, which was released when it hiked interest rates on 3 November - two weeks in advance of the autumn statement.

In the report, it said it expects investment in property to fall sharply in 2023 and 2024. The UK central bank says in its analysis that there will be “persistent tightening” for household budgets, which is likely to lead some to “cut back their consumption further to avoid building up mortgage arrears”.

In other words, it’s likely that a significant proportion of households will be thinking about heating and eating rather than moving house.

• Office for Budget Responsibility

The OBR’s forecast is slightly more current, given it took into account what was announced by Jeremy Hunt during the autumn statement. It is crystal ball gazing - but by a respected institution.

It said it expected property prices to drop by 9% between the fourth quarter of 2022 (i.e. now) and the third quarter of 2024. This would mostly be due to high mortgage interest rates, which are expected to peak at 5% by the second half of 2024 - the highest rate since 2008.

Reacting to the OBR report, Iain McKenzie, CEO of the Guild of Property Professionals, said his takeaway was that “there may be some realignment in pricing to adjust for the rising cost of living but the market will recover.”