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The housing collapse is now in full swing. Figures from the Nationwide, released in late August, showed prices had suffered an annual decline of10.5 per cent, roughly in line with the 11 per cent fall recorded by their rivals at the Halifax.

So many people have been predicting this decline for so long that it almost seems an anti-climax. Indeed, most pessimists were way too early. The influence of low interest rates, the effect of planning restrictions on the supply/demand balance and the impact of immigration was underestimated. But that is the problem with bubbles. Since they are, by definition, irrational, it is hard to find a rational method of defining when they should pop.

My argument was always that the housing bubble was driven by the same kind of rationale as the dot.com boom. In the late 1990s, equity valuations exploded because inflation and interest rates were low. The reasoning was based on the discounted cash flow model; since future earnings were discounted at a lower rate, the present value of shares should be higher. Similarly, low interest rates meant borrowers could afford bigger mortgages, and thus pay higher prices for houses.

The flaw in this reasoning is that interest rates are not the only thing that fall when inflation fails. Future nominal profits growth also declines. This was disguised for a while in the 1990s, first thanks to a genuine cyclical recovery and then to accounting shenanigans. In the housing market, any 50-year-old can remember the 1980s when we learned to borrow as much as we could because inflation will erode the real value of the mortgage. The corollary of low inflation now is that our wages will grow slowly and the debt burden will decline at a snail’s pace.

Eventually, this problem was bound to bring the housing bubble to an end. It also means, in the absence of a sudden burst of inflation, that recovery will be slow. (We have had a rise in price inflation but this will make things worse rather than better. Wages have not kept up with the retail prices index so consumers’ incomes have simply been squeezed by high oil and food prices. That makes it more difficult for them to buy houses.)

What will also lengthen the crisis will be the attitude of the banks. As soon as they suffer debt defaults, they cut back on further lending. This creates more problems for consumers, resulting in more bad debt problems, a vicious downward spiral. It usually takes a few years, as we discovered in the 1990s, for the nadir to be reached.

The US seems like an obvious case study for the moment. There the housing bubble peaked in 2006. There are some tentative signs of stabilisation in terms of house sales and the rate of annual house price decline has stopped accelerating. But, at best, the market seems unlikely to recover an even keel until 2009, a three-year bear market at the minimum. On that basis, if you date our decline from late 2007, it will be the end of 2010 before things recover. And we need to remember that house prices have been more overvalued here (on most measures) than in the US.

It is quite possible that things could get very bad indeed. The UK economy is probably in recession, which means that unemployment, is likely to start rising fast. The wealth effect could persuade consumers to cut spending and save more (especially as the savings rate was at a 49-year low in the first quarter.) Defaults on mortgages will be followed by defaults on credit cards and car loans.

Advisers may find a lot of very depressed clients over the next couple of years. It won’t help if they have to break the bad news that their stock market portfolios have declined as well. Conservative investing may be the order of the day.

Philip Coggan is Buttonwood columnist for The Economist