United Kingdom : Financial Sector Assessment Program-Property Markets and Financial Stability-Technical Note

The interaction of property markets with financial markets has important implications for financial stability. Cycles in the prices of housing and commercial property affect the balance sheets of households, banks, and other financial institutions. Excessive lending and price swings in property markets can cause significant distress to both borrowers and lenders. In addition to direct balance sheet effects, real property affects the economy through the financial accelerator. Since many firms rely on real estate as collateral to secure their borrowings, they are very sensitive to changes in the valuation of their pledged assets. A drop in prices of real property weights on firms' access to finance, which can reduce economic activity, leading to further declines in asset prices and potential financial stability risks. Finally, increasing debt associated with property purchases increases the vulnerability of indebted property owners to economic shocks, with potential knock-on effects on the rest of the economy.2 The purpose of this note is to assess the risks to the financial sector that currently emanate from United Kingdom (U.K.) property markets.