No oil or housing shortage, just a lack of common sense

published 27 May 2008

Here's a turn-up for the books: we have such a vast oversupply of houses in the UK that Gordon Brown is proposing to spend £200m to buy up some of the excess.

This is amusing in many ways. There is a nice irony in seeing the government, whose tax and easy-money policies drove the buy-to-let bubble, backed into becoming a buy-to-let investor itself just as everyone else rushes for the exit.

There is also the absurdity of Brown suggesting that his £200m can help the housing market or that it would be a good thing if it did: there surely aren't many left who think that endlessly rising house prices are a good thing. Then there is Brown's other idea - that he will push shared ownership, perhaps of these unwanted houses, as a way of helping first-time buyers on to the ladder, just at the very moment that most first-time buyers have realised that the last thing they want is to get on that ladder. Instead, they want to sit back and wait for the market to sort things out for them.

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But the best bit of all is the way this seemingly sudden surplus of new houses - houses no one wants to buy - throws light on the nonsense that has been used to rationalise the housing bubble over the past decade. The argument, spouted by everyone, from the founders of now bankrupt buy-to-let 'investment' club Inside Track, to the strategists of supposedly respectable international banks went like this: the UK is a small island; there aren't enough houses on it for our growing population; this shortage of supply means house prices will go up for ever.

So much for that - even our housing minister thinks prices are going to fall 5-10 per cent at best. As it turns out, there are plenty of houses. Some 163,900 houses were completed in 2006 and another 174,900 in 2007 - assume three people per household and that puts a new roof over the heads of not far off one sixtieth of the population. The thing in short supply was never houses. No, it was common sense.

This brings me neatly to oil, another area where any price level can seemingly be justified by the shortage of supply argument. A few years ago, only a few brave analysts were predicting oil above $50. Now to be taken seriously in analyst land you've got to be forecasting $200. And the argument used to back all this up? Yes, it's limited supply meets limitless demand. Years of cheap oil meant that until very recently the oil majors made no effort whatsoever to explore for new oil reserves, nor to find ways of upping production from existing reserves: every presentation ever given on oil contains a slide on the fact that a major new oilfield has not been discovered for 40 years. This stupendous underinvestment has now, as Tim Price of PFP Group puts it, 'crashed horribly into a historic surge in global demand'.

I'm not for a second suggesting that this fundamental case isn't true. It is - just as it is true that the UK has a limited amount of land and a large population. But that doesn't mean that it justifies an oil price of $200 or $150 or for that matter of $120 in the same way as the fact that the UK land shortage can't justify a price of six times the average salary for the average house.

Right now, in a rational world, the oil price should be at least stalled and probably falling. Let's not forget that in the UK we are almost certainly on the edge of recession (even Mervyn King admits to the possibility now) as is the US and as are the likes of Ireland and Spain. That suggests that much of our direct demand for oil is going to fall away, as is our indirect demand: note that a percentage of the oil used in China is used to make and transport the stuff the West buys - stuff it might not buy so much of next year.

At the same time, supply is rising - albeit slowly. There are more oilrigs in action than ever; there are a good number of big projects in the pipeline; and according to Citigroup, world oil production was up 2.5 per cent in the first quarter of 2008.

So why is the oil price still rising? The picture is complicated by the fact that that so many countries pay out vast subsidies to keep the price of oil products down. In Saudi Arabia a litre of petrol costs a couple of pence, in Venezuela it comes in at around 8p and prices are heavily subsidised in India and China too. This means that as global prices rise, consumption doesn't fall as it would in a free market. It is also complicated by the arrival of the global investing community: US pension funds poured $40bn into commodities in the first quarter of this year, more than they put in in all of 2007 and money is still piling into the story. The result is that oil could, just as houses did in the UK in the first half of 2007, 'melt up' - move higher and higher on a wave of overblown 'supply shortage' conviction. You might make a lot of money if you bet on this - modern markets love melt-ups - but the problem with doing so is that when markets melt up they then melt down very fast indeed. I'm not nearly brave enough to be in the oil market right now.

First published in the Financial Times

Merryn Somerset Webb started her career in Tokyo at public broadcaster NHK before becoming a Japanese equity broker at what was then Warburgs. She went on to work at SBC and UBS without moving from her desk in Kamiyacho (it was the age of mergers).

After five years in Japan she returned to work in the UK at Paribas. This soon became BNP Paribas. Again, no desk move was required. On leaving the City, Merryn helped The Week magazine with its City pages before becoming the launch editor of MoneyWeek in 2000 and taking on columns first in the Sunday Times and then in 2009 in the Financial Times

Twenty years on, MoneyWeek is the best-selling financial magazine in the UK. Merryn was its Editor in Chief until 2022. She is now a senior columnist at Bloomberg and host of the Merryn Talks Money podcast - but still writes for Moneyweek monthly.

Merryn is also is a non executive director of two investment trusts – BlackRock Throgmorton, and the Murray Income Investment Trust.