When First Minister Nicola Sturgeon announced the Scottish Government's target to deliver 50,000 new affordable homes, including 35,000 for social rent, by 2021, many in the housing finance industry reacted like Cuba Gooding Jr's character in Jerry McGuire by crying out: "Show me the money!"

Let's take a look at the figures. The Scottish Government has committed to invest £3 billion, but how much will it cost to deliver the homes? Well, if one assumes (and it is perhaps a big assumption) that each home will cost £120,000 to deliver, the total cost for 50,000 would be £6 billion. That leaves a £3 billion shortfall that will need to be found elsewhere. So, where is this money going to come from?

Over the last 20 years, finance for the funding of affordable housing in Scotland has been provided in the main by a small pool of clearing banks and other UK-based lenders to housing associations. According to figures from the Scottish Housing Regulator this included in 2016 £275 million of new finance that was overwhelmingly provided by banks. That is a significant figure but it falls way short of what is needed to reach the required level of funding required to deliver the 50,000 new homes over the life of the Scottish Parliament.

If the current finance pipeline is insufficient, then where will the additional cash come from? It is likely, of course, that the existing lenders to the sector will step up and increase their commitments. It would be a huge ask, however, for them to plug the overall gap. In practice there are only a small number of banks and other lenders active in the Scottish market and this would need the existing participants to take on hugely increased burdens.

Beyond the existing lenders, there may be new entrants in the banking market, particularly from abroad However, they are likely to be selective and conservative in their approach and again it is perhaps doubtful as to what overall impact this might achieve.

In addition to affordable housing delivered by the housing association movement we are also seeing a renaissance in housing provision by local authorities. Much of this is likely to be financed by low-cost loans provided by the Public Works Loan Board. There is however a limit to how much debt local authorities can take on board with councils being subject to strict prudential borrowing rules aimed at ensuring affordability of such debt.

In 2016 there were 1509 new council house commencements, a rise of just over 3% from the previous year. Although some local authorities have announced significant plans for additional affordable housing supply, it seems unlikely that in itself this will make up the shortfall in the target of 50,000 units.

Housing associations and local authorities are, of course, already aware of these financing challenges, and they have been seeking finance from alternative sources, including from the capital markets and non-bank providers of finance. We have already seen a number of Scottish housing associations tap the capital markets by means of private placement and bond transactions which allow insurance companies and similar entities to invest against payment of a long ended coupon. This trend is likely to increase but does depend on a continued appetite of such funds for this type of investment. This is also a form of finance less accessible to smaller associations. Previous initiatives to enable smaller associations to aggregate together to access the capital markets have had limited success in Scotland.

We also need to remember that there is already significant pressure on the capital markets to invest outside Scotland with issuance in England dwarfing the Scottish position. Investors, particularly those located off-shore, tend to be comfortable with the position in England but need more persuasion in relation to Scotland given the separate legal and regulatory framework in operation. Generally they manage to get comfortable but this creates a further hurdle to overcome.

Of course the position in relation to Scotland is not all negative when compared to the situation south of Hadrian's Wall. At least we are not faced with the 1% rent reduction per annum introduced by the former Chancellor of the Exchequer George Osborne in England which has led to a flurry of merger activity amongst English housing associations.

But we shouldn't kid ourselves. Attracting capital market investment into Scotland is challenging. It is not helped, for instance, by the proposed legislative changes currently running through the Scottish Parliament to ensure that housing associations can be re-classified as private sector entities, leading to arguably what will amount to a watering down of the regulatory framework, which is an underpinning attraction of the sector to providers of finance. The potential spectre of Scottish independence is also a challenging factor for some investors, particularly over concerns about currency uncertainty and inability to hedge. In addition, we have the uncertainties over Brexit, leading, for instance, to the credit ratings agency Moody's recent decision to downgrade a pool of housing associations and other 'public sector' entities.

If the capital markets offer only a partial solution, then we may need to look for guidance from other countries to identify more innovative funding models. Structures involving sales and leasebacks and other off-balance sheet models are likely to be relevant. The extension of the PRS sectors into the affordable housing market might also be of interest as investors into this type of asset class chase deals and yield income.

So, there are challenges ahead. We need to start thinking flexibility and innovatively about how we finance housing supply and not assume that finance will necessarily simply be there when needed. In answer to Cuba Gooding Jr's cry of "Show me the money" we can identify some of it visible above the iceberg but we are going to have to work hard to deliver the remainder.


Chris Dun