‘Sledgehammer’ approach to risky lending could hurt economy: REIA

Interesting statements from the REIA today, highlighting the risks, in their eyes, to the economy if regulators tighten credit on home lending.

Here is the problem, do nothing, and home prices will continue to spiral higher with households ever more exposed, leading to a bigger future correction, and so economic damage, as rates rise or other events wash over us; or tighten investment lending controls now to cool the market, perhaps leading to reduced demand, home price correction, and so economic damage.

I am not sure there is now a middle way – all roads take us to a crunch, its just a matter of timing – a correction we have to have?

From The Real Estate Conversation.

Malcolm Gunning, president of the REIA, has warned that the combined actions of APRA, ASIC and the banks could decrease demand for new properties to such an extent that housing supply dwindles and the construction sector weakens.

The Real Estate Institute of Australia has urged regulators and banks to take caution when restricting bank lending to dampen investor demand for property in Sydney and Melbourne.

“Whilst warnings about interest-only loans and over committed borrowers might be justified in some circumstances, it does not mean all interest only loan borrowers should be penalised and outlawed,” REIA president Malcolm Gunning said.

He warned that the combined actions of APRA, ASIC and the banks could decrease demand for new properties to such an extent that supply dwindles, worsening housing affordability, and the construction sector weakens, damaging the overall strength of the economy.

“The cumulative impact of the collective action of APRA, ASIC and individual banks could well be sledgehammer, when only some fine tuning was required,” he said.

“We need to be careful that we don’t constrain the building and construction sector that has kept the Australian economy growing following the decline in the mining sector.”

Gunning said that talk of weakness and lack of confidence on the future strength of the economy, can become a self-fulfilling prophecy.

Being exposed to negative “expert opinions” daily can quickly become a “doomsday prophecy”, warned Gunning.

Gunning said agents working at the coal face are already seeing signs of a slow down.

“Market information from our Sydney and Melbourne member agents suggests that there are signs of a slow down.  The leading indicators tell a very different story to the lagged historical data,” cautioned Gunning.

“We need to be careful that an overreaction to the investor led Sydney and Melbourne property markets doesn’t threaten the health of the national economy”, he concluded.

Housing correction ‘won’t be orderly’

From The AFR.

Ask respected property analyst Martin North what form the coming downturn in the housing market might take and “orderly” is not the description he uses.

Instead North anticipates a much more significant downturn in the investor-driven, debt-laden markets like Sydney and Melbourne.

“Orderly” is how S&P Global Ratings director Sharad Jain described the likely unwinding of the overheated housing market, where annualised house price growth is running close to 20 per cent in Sydney and Melbourne.

“It could unwind in an orderly manner as we are seeing in parts of Western Australia and Queensland,” Mr Jain said at the Australian Financial Review Banking and Wealth Summit this week.

But according to Mr North, whose says his view on the housing market has turned increasingly gloomier, Australia could be at the very early stages of where the US housing market was in 2008 before it crashed.

“Regulators have come to the party three or four years too late. They should have tackled negative gearing, not cut rates as much and focused on mortgage underwriting standards. Had they done so we would be in a position to manage the situation,” said Mr North, who runs research house Digital Finance Analytics.

“I have a nasty feeling we are passed the point of being able to manage this. There are not enough levers available to regulators to pull it back in line. I can’t see anything other than a significant correction. It’s not a question of if, but when.”

But SQM Research managing director Louis Christopher, the country’s most accurate forecaster of house price growth, said it was “too early to call what type of correction we will have”.

“The last downturn in Sydney was in 2004, where the market did correct a little bit that year and then stayed flat for an extended period of time.

“On balance you would say the odds favour a similar type of downturn, where the market corrects by 4-5 per cent and thereafter does not do anything for a long time.

“Perth’s correction has been kind of orderly. Not in its rental market where rents are down 20 per cent, but orderly for prices,” he said.

According to Mr Christopher, continued strong population growth in Sydney and Melbourne will continue to drive underlying demand for housing and should act as a buffer against any major correction.

But, he cautioned, the longer house prices continued to rise, the less likely any unwinding will be orderly. “If prices rise another 20 per cent, that increases the risk of a sharper correction,” he said.

CoreLogic figures going back to 2000 show that most housing booms have been followed by shorter periods of correction and then followed by elongated periods of little or no growth.

Even in Perth, where house prices have been correcting since late 2014 and have hardly moved in the past four years, they are still up more than 200 per cent since 2000.

Corelogic’s head of research, Cameron Kusher, said the “great unknown” in how the current house price cycle will play out is what investors will do when the growth is no longer there.

“If investors stay, the correction should not be too bad. But if they go away like they did in Adelaide, Brisbane and Perth and dump property for other asset classes, it could be much worse.”

Were that situation to play out, Mr Kusher said the Brisbane and Melbourne unit markets – where investors have dominated – could be the worst affected.

Based on the latest NAB Residential Property Survey of 250 property professionals, most investors appear to have no intention to quit the market.

The latest quarterly survey shows a surprise rise in housing market confidence despite mortgage rates going up and APRA turning the screws on lending to investors.

NAB chief economist Alan Oster believes an orderly unwinding of the current boom is the most likely outcome, pointing to the bank’s own forecasts of a slowdown later this year with annualised house price growth halving to about 7 per cent and then dropping to 4 per cent in 2018.

With the demand still strong and interest rates to remain low, Mr Oster said unemployment was the critical factor.

“We don’t see an unorderly correction unless unemployment hits 8.5 per cent and that would take a major global shock most likely coming out of the US or China,” Mr Oster said.

Having witnessed numerous housing cycles in his 30 years in real estate, John McGrath says he does not subscribe to the “housing bubble theory”.

Mr McGrath believes that if there is a correction it is likely to be modest with the recent tightening of lending acting as a “natural economic firebreak” to any collapse in prices.

“Historically if and when there is a correction the market gives back about half of the prior years growth which would suggest that when prices stop rising we are likely to see either a stabilisation at that point or perhaps a 5 per cent correction.

“Sydney and Melbourne are now major international cities and an ideal alternate address for those living or doing business in Asia. Compared to values in other great cities of the world, many overseas buyers and expats still see our two biggest cities as good value globally and a very safe place to invest,” he says.

But, Mr North sees things differently: “We have about 22 per cent of households in mortgage stress, which will continue to rise. There’s flat employment growth and no wages growth. I can’t see how you can hold all those elements together.”

And he believes the wealthier end of town could be most at risk: “My data shows the highest levels of immediate problems are not in the suburban fringe, but in the affluent suburbs, where people are really geared up with multiple properties.”

First Scramble the NBN, Now Housing

The AFR reports today that Scott Morrison is advocating increasing supply as the recipe to solve the current housing issues, and is standing firm against a crescendo of calls to curb negative gearing tax breaks (though may be more amenable to capital gains changes).

I was reflecting on the current state of play, given RBA, APRA, ASIC (three members of the Council of Financial Regulators – the Treasury being the fourth) are all underscoring the risks in the housing sector. Investors are in the firing line.  Logically, negative gearing should be curbed.

But then I started to consider the political agenda, and wondered if there are parallels with the second class service the current NBN solution is delivering; at least to me. Essentially, Turnbull wound back Labor’s fibre to the end-point solution by arguing that there was a better, cheaper, quicker way. It became do anything BUT what Labor proposed. The result, in my case at least is a slow, unreliable NBN solution, unable to deliver acceptable bandwidth at peak times, and no upgrade path. The political battle may have been won, but the end outcome is frankly horrid. As a digital business we suffer the result every day! The cabinets on the local street corners (now daubed with tags and grafiti) will be a lasting tangible monument to a politically catalysed outcome.

But, now, are we seeing the same with Negative Gearing changes, which Labor proposed, and which have been opposed by the Government ever since?  Has it become caught in the same trap as the NBN? Had Labor kept it’s power dry, would we have seen changes to negative gearing already?

Could it be that on principle, the Government won’t concede this to Labor, and so will literally go round the houses to avoid changes to negative gearing?

This despite the many calls, from responsible and well informed sources who say that it is the tax breaks which are driving the investment property sector. This is also confirmed in our surveys.

Will the legacy of the unwillingness to tackle such a core element in the landscape cost us a housing crash? As we argued recently, it is looking more likely that we will need a correction to defuse the current heady trends.

But if the needs for a political wins outweighs good policy, it is highly likely we will get the housing equivalent of the NBN. We think Australia deserves better.


House price growth could create ‘systemic risk’

Australian bank hybrids, equities, term deposits and residential investment properties are all essentially one big bet on Australian housing.

From InvestorDaily.

The housing sector has supported the Australian economy for several years, but further increases to house prices without increases in wage growth will increase the possibility of systemic risks, says Pimco.

Housing has been the “main domestic growth engine” in Australia since the economy shifted away from mining in 2012, said Pimco co-head of Asia portfolio management Robert Mead, which improved headline economic growth but increased household debt at lower interest rates.

Mr Mead noted that average lending rates for standard housing loans as measured by the Reserve Bank of Australia (RBA) fell from 7.3 per cent in 2012 to 5.25 currently, while the RBA policy rate fell from 4.25 per cent to 1.5 per cent in the same period of time.

“This demonstrates a highly effective transmission mechanism of monetary policy: more than 76 per cent of RBA policy rate reductions have flowed directly through to the main consumer borrowing rate,” Mr Mead said.

“However, during this same period wage growth fell from over 3.5 per cent per annum to less than 2 per cent, and the unemployment rate increased from 5.1 per cent to 5.9 per cent. This suggests that the capacity of the average Australian borrower to take on additional debt was actually weakening, not improving.”

While the RBA’s monetary policy regime was “highly effective” as the economy weakened, Mr Mead cautioned the bank’s implementation of policy is likely to be made more difficult by the “significant” increase in household debt at a lower borrowing rate.

“Looking forward, we believe the current economic backdrop accompanied by some recent increases in mortgage rates by the Australian banks will keep the RBA on the sidelines for all of 2017,” he said.

“We also expect increasing reliance on macro–prudential policies to limit the upside in property prices. While housing has definitely helped support the economy over the past four to five years, any further increases in house prices that are in excess of wage growth will represent potential systemic risks for the economy.”

Mr Mead said diversification was critical to investors, and should be a key theme for portfolios.

“Australian bank hybrids, equities, term deposits and residential investment properties are all essentially one big bet on Australian housing,” he said.

Governments are trapped in a vicious cycle of housing policies and prices

From The Conversation.

Whether house prices have been inflated by limited supply, or because of transfers to investors and homeowners, government policy is now trapped in a vicious cycle. The wealth accumulated in our houses has become a central part of the retirement system, and the government itself can’t afford for prices to fall.

Generous tax subsidies and asset test concessions on the family home have incentivised the accumulation of wealth in property and fuelled demand pressures in the housing market for decades.

Government assistance to home buyers and owners is provided in the form of the First Home Owners Grants, stamp duty concessions, and the family home’s exemption from capital gains tax, land tax, as well as the pension and other assets tests. These subsidies and concessions combine to make wealth accumulation in the family home more attractive than other assets.

In many real estate markets, land supply constraints and planning controls can limit urban sprawl while housing demand pressures continue to intensify. Hence, cities such as Sydney have become “pressure cookers” where the subsidies result in rising house prices in the face of land supply constraints.

The policy-price cycle

The family home has become a cornerstone of the Australian retirement system. Sustained house price increases have allowed government income support to be set at historically low levels in Australia compared to other countries with lower home ownership rates such as Sweden and the Netherlands. This is based on the assumption that the low-income elderly will be housing asset-rich, and can therefore can get by on smaller pensions.

Indeed, in an era of ageing populations, governments have been encouraging older Australians to tap into their store of housing wealth to fund their own retirement and ease intergenerational fiscal tensions. For instance, the Productivity Commission’s aged care equity release scheme recommends elderly home owners draw down against their housing equity to meet aged care costs.

Of course, this only works if house prices continue to rise.

If house prices fall, the cycle gets broken and the family home may no longer be an adequate base for supporting the retirement needs of the wider population. In the event of a long-term decline in house prices, individuals would require greater income support from governments as their personal asset base weakens. This would in turn perpetuate a rise in government social security expenditure.

Over the long term

But even if house prices weren’t to decline, there is a paradox at play in this system. In order to maintain a healthy housing asset base for retirees, house prices must remain high. So the policy-price cycle is aimed at sustaining home ownership as a key pillar of the welfare system. However, it has also resulted in housing wealth becoming increasingly concentrated in the hands of smaller subgroups. Notably, housing equity is getting concentrated in the hands of older generations.

Author’s own calculations from the Australian Bureau of Statistics Surveys of Income and Housing. Author provided

As these charts show, the intergenerational housing wealth gap has widened in the last two decades. In 2011, the median housing equity of home owners aged 45-64 years was nearly double the value held by the 25-44 year olds. The share of the population’s housing equity held by those aged 45-64 years has widened between 1990 and 2011 at the expense of those aged 25-44 years.

This means the system could potentially unravel in the long term. If large numbers of young people continue to face price barriers to home ownership, the home ownership pillar within the welfare system will be weakened as the future population of home owners shrinks.

In the short-term a significant group of millennials will miss out on the benefits of home ownership. But in the long term, unless governments address some fundamental structural problems currently entrenched within our tax-transfer system, there is a significant weakness in our social welfare system built on housing.


Author: Rachel Ong, Deputy Director, Bankwest Curtin Economics Centre, Curtin University

Housing affordability takes a $2000 hit in just three months

From The NewDaily.

First home buyers will be forced to save an extra $2000 towards a deposit just to keep up with the last three months of price growth, according to CoreLogic data exclusive to The New Daily.

The median house price in the eight capital cities is now $613,200, CoreLogic estimated, based on sales in the March quarter.

At the end of last year, this figure was $592,807, which means in just three months, as hopeful buyers saved madly, the goalposts shifted 3.4 per cent further away. And that’s only for a modest 10 per cent deposit.

All up, a young couple now needs about $61,300 for a 10 per cent deposit on a median-priced house in the city. In Sydney, it’s a staggering $88,000.

If they’re saving for a 20 per cent deposit, which many banks now prefer, they’ll need $176,000 for a median-priced Sydney home – up $8200 in three months.

house-price-growth-depositIf prices stood still from today, a couple saving for a 10 per cent deposit in a capital city would need to put away roughly $1200 a month for the next four years, presuming they earned 2.5 per cent interest, compounded monthly.

And this doesn’t include lenders mortgage insurance (LMI), which Australian banks have made compulsory for all borrowers with deposits below 20 per cent. Gone are the days of 0 per cent deposit loans unless you have a guarantor.

A median-priced house in a capital would require roughly an extra $13,500 in LMI, which the couple would presumably ask to be ‘capitalised’ into their loan – meaning they would pay an extra $67 per month on their repayments.

To avoid LMI entirely, first-time buyers would need to save a 20 per cent deposit of $122,640, based on CoreLogic’s median capital house price. That’s $4000 more than three months ago.

And then there’s stamp duty and the litany of other upfront costs that home buyers face. Stamp duty alone could add an extra $23,000 to a median-priced home.

As these figures show, a guarantor is probably the only way for many buyers to get into the market. Many institutions will lend 100 per cent or even 110 per cent of the home value if first-time buyers have a guarantor.

There is plenty of controversy over whether or not houses are more or less affordable than ever. For example, Jamie Alcock, an academic at The University of Sydney, wrote in The Conversation last week that mortgages are now more affordable, as record-low interest rates are nowhere near the 17 per cent highs of the 1990s.

Even if that’s true, the CoreLogic figures, coupled with the tighter lending requirements of the banks, prove that house price growth is making it harder for deposit savers to keep up.

And as Professor Alcock warned, when interest rates do inevitably rise, today’s ‘comfortable’ borrowers will become tomorrow’s highly stressed repayers.

Home Prices Through The Roof

From Business Insider.

Australian house prices continued to soar in March, and not just in Sydney and Melbourne.

According to the latest Hedonic Home Value Index released by CoreLogic earlier today, capital city house prices rose by a weighted average of 1.4% last month, leaving the increase on a year earlier at 12.9%, the fastest seen since May 2010.

And while prices in Sydney and Melbourne, the epicentre of Australia’s housing affordability debate, logged hefty increases of 1.4% and 1.9%, they were actually outpaced by gains in several other capitals during the month.

This table from CoreLogic shows how prices in individual capital cities fared in March.

Source: CoreLogic


At 3.1% apiece, prices in Hobart and Darwin recorded the strongest growth in prices, while those in Canberra and Perth logged gains of 1.4% and 1.0% respectively.

Adelaide and Brisbane recorded more modest increases of 0.4% and 0.2%.

While the price growth was uneven across the capitals, with all capitals recording an increase in prices over the month, it suggests that the strength in the Sydney and Melbourne markets are now spreading across the country.

For the quarter, prices rose by over 5% in Sydney, Hobart and Canberra, and in excess of 4% in Melbourne.

Adelaide, at 1.6%, was the only other capital to register an increase. Elsewhere, prices were flat in Brisbane but fell in Perth and Darwin.

In weighted terms, and largely reflective of ongoing strength in Sydney and Melbourne prices, prices across the nation’s capitals rose by 3.5% over the quarter.

A huge increase, and one that suggests demand for property remains as strong as ever despite out-of-cycle mortgage rate increases from lenders and the threat of tighter lending restrictions, and potential changes to the tax treatment of housing, from Australian policymakers.

As a result of the enormous increases registered in the quarter in Sydney, the median dwelling price in the city surged to $805,000, up 18.9% on a year earlier.

CoreLogic said that was the fastest annual rate of growth recorded since November 2002.

Prices in Melbourne rose by 15.9% over the same period, and by over 10% in Canberra and Hobart.

Prices in Brisbane and Adelaide rose by a smaller 3.7% and 3.4% over the past 12 months while those in Perth and Darwin — most exposed to the mining sector — fell by over 4%. This result is largely reflective of weaker economic conditions, increased supply and population trends across the country.

The variance in prices across the country in the past year underlines the multi-speed housing market we’re seeing at present, and underscores why the most acute concerns over financial stability risks and housing affordability are centred around Sydney and Melbourne.

As this chart from CoreLogic reveals, the median dwelling price in Sydney has now increased by 109.2% since January 2009. Prices in Melbourne, at 92.4%, have also risen substantially over the same period.


Source: CoreLogic


By type of dwelling, CoreLogic said that in combined weighted terms, house values were 13.4% higher over the past twelve months compared with a 9.8% rise in units.

Commenting on the March result, Tim Lawless, head of research at CoreLogic, said that the strength in house prices — particularly in Sydney and Melbourne — reflect not only strong demand but also lower-than-usual supply for sale.

“Low listing numbers continue to create urgency for buyers with the number of properties being advertised for sale remaining low,” says Lawless.

“Nationally, the number of residential properties advertised for sale was 6.9% lower than a year ago in March, and total listing numbers were 4.0% lower across the capital cities.”

Lawless says that every capital city currently has fewer residential properties advertised for sale compared with a year ago, which, along with strong demand, is helping to stoke price growth even more.

“A shortage of advertised stock can contribute to upwards pressure on prices, as prospective buyers experience FOMO — the fear of missing out — which reduces a buyers ability or willingness to negotiate on prices and causes some urgency in the decision making process,” he says.

He says that strong demand can be attributed to the rising number of investors participating in the market compared with a year ago as well as the lower cash rate stimulus and population growth.

While those conditions have helped to fuel rapid price growth over the past 12 months, Lawless is not sure whether that strength will continue, particularly with Australia’s banking regulator, APRA, announcing late last week that it will now limit interest-only loans to 30% of total new mortgage lending.

“Given the recent policy announcements are aimed at dampening investment related credit demand, we can expect lending conditions for investment purposes will tighten, particularly for investors with small deposits or those applying for an interest only loan,” he says.

“Additionally, higher mortgage rates handed down by Australia’s major banks may contribute towards cooling some of the exuberance being seen in the largest capital city housing markets.”

Lawless also believes that record-low rental yields for investors due to ongoing price gains, along with affordability constraints limiting new entrants to the market and increased unit supply, are also likely to act as a brake on capital gains in the period ahead.

What economics has to say about housing bubbles

From The Conversation.

The b-word is doing the rounds, barely a decade after the United States house price bubble burst spectacularly, setting in motion a global financial crisis. As Australian real estate prices continue to break records, many wonder whether this is sustainable.

Economists disagree on how to define a bubble, or even whether bubbles exist. Intuitively, a bubble (and this applies to any asset, not just real estate) exists when the price of an asset is over-inflated relative to some benchmark. And here’s the rub: no one can agree on what that benchmark should be.

The benchmark could be an estimate of the asset’s value based on a collection of variables that plausibly affect its supply, demand and price, so-called fundamentals. For houses, these fundamentals include population growth, tax policy, household size, household income, and many others.

But economists cannot agree on what fundamentals determine an asset price, or how important each fundamental is. As well, the value of these fundamentals can only be estimated, not observed. It’s subjective to the point that someone will always be able to concoct a story based on fundamentals to rationalise why house prices are at the level they are.

Some economists propose alternative benchmarks to measure a bubble, such as historical long-run averages or an estimate of the underlying value of a trend. If asset prices are greater than these averages or the trend, then we have a bubble. However, this definition is too simplistic because the economy is dynamic, ever evolving, and both long-run averages, as well as trends, do change.

Price hikes and bubbles

It’s only when asset prices reach outrageous heights that a majority of people, economists included, agree that it is overpriced and due for a major correction (a bubble burst). Even then some economists will deny the existence of a bubble.

One of the earliest examples of an asset price bubble was the frenzy in the market for Dutch tulip bulbs in the seventeenth century — the so-called “Tulipmania”. Although the data is patchy and many historians have not exercised great care in retelling the story, there’s little else to explain how prices for Witte Croonen bulbs rose 26-fold in January 1637 and fell to one-twentieth of their peak value in the first week of February.

Yet, well-respected scholar Peter Garber argued that:

The wonderful tales from the tulipmania are catnip irresistible to those with a taste for crying bubble, even when the stories are so obviously untrue. So perfect are they for didactic use that financial moralizers will always find a ready market for them in a world filled with investors ever fearful of financial Armageddon.

Soldiers destroy tulips to reduce supply and stabilise prices following the sudden collapse of tulip prices in seventeenth century Holland. The Tulip Folly (1882) by Jean-Léon Gérôme. Jean-Léon Gérôme/Wikimedia Commons, CC BY-SA

Assuming bubbles are a significant gap between the observed asset price and some appropriate benchmark value, the mere existence of this gap begs the question of how it came about. The answers mostly rely on psychology, which is why many economists (looking to represent the world in a mathematical model) struggle with the concept.

Bubble frenzy

Bubbles are ultimately a confidence game, in which the vendor sells the asset to a buyer at a profit, with the latter hoping to do the same in the future. This game relies on a powerful narrative that captures people’s imagination and persuades them their turn will be different.

As George Soros, the famous US-Hungarian multi-billionaire hedge fund manager once remarked:

[…] Bubbles don’t grow out of thin air. They have a solid basis in reality, but reality as distorted by a misconception.

This misconception is the consequence of human behaviour and traits that depart from the fully rational paradigm so often assumed in formal economics. Instead, as behavioural economists argue, people exhibit a number of biases.

These include, for example, the desire to find information that agrees with their existing beliefs (called confirmation bias) or the tendency to form decisions based on the most readily available information (called availability bias). People experience and seek to resolve their discomfort when they have two or more contradictory beliefs, ideas, or values and they also employ simple abstractions in thinking about complex problems and events (framing).

People are poor intuitive statisticians and care more about avoiding losses than about experiencing gains (called loss aversion). The list of flaws in human behaviour goes on. Moreover, humans, social animals that we are, compete with and emulate our peers, herd like sheep and act on rumours.

Occasionally, all these traits and biases re-enforce each other and send the prices of houses, or shares or whatever, into the stratosphere.

Who’s afraid of a bubble?

The bubble itself is rarely a major cause for concern, although young Australian households looking to purchase their first home will disagree. The problem, of course, is that every bubble eventually pops and this correction is typically violent and painful, for two reasons.

First, asset prices often fall faster than they rise, so the downward correction can destroy value in a very short space of time. And second, most bubbles are fuelled by debt, because the only way a bubble can expand in the later stages is if the demand for the asset is bolstered by debt.

This combination – high debt and falling asset prices – generates a vicious cycle in which distressed debtors scramble to repair their balance sheets and sell their asset. This in turn pushes the price of that asset even lower, causing further distress to similar owners of the asset, and so on.

The pain associated with a bursting bubble varies considerably. Sometimes economies rebound rather quickly from a burst bubble, as was the case after the breath-taking collapse of the dotcom bubble.

However, housing bubbles are in a league of their own. Historically, they have always led to severe recessions, and there is no reason to believe this should change. The next time is not different.

The answers on how to deal with a bubble range from “nothing” to “whatever it takes”. The problem is that no-one (policy makers included) can reliably identify a bubble.

If there is such a thing as a bubble, we will only know for sure when the bubble is already popping. Acting early to prevent a bubble expanding further is risky and unpopular. It’s a brave central banker who raises interest rates in anticipation of an increase in asset prices when the rest of the economy is humming along just fine, or even showing signs of weakness.

So, is Australia in the midst of a housing bubble? I will go out on a limb and answer in the affirmative. There are plenty of arguments why current house prices are exactly where they should be, based on the fundamentals.

But in my opinion these explanations do not pass the smell test: double digit increases in house prices, combined with unprecedentedly high household debt (more than 120% of GDP, the third highest in the world) and household debt servicing ratios (also the third highest in the world), make for a precarious situation. All it takes is a modest change in investor sentiment, a few interest rate hikes, or a noticeable increase in unemployment, and the whole scheme unravels. I hope I’m wrong, but history is on my side.

Author: Timo Henckel, Research Associate, Centre for Applied Macroeconomic Analysis, Australian National University

Global House Prices—Where is the Boom?

From iMFdirect.

While house prices around the world have rebounded over the last four years, a closer look reveals that this uptick is dependent on three things: location, location, location.

The IMF’s Global House Price Index—an average of real house prices across countries—has been rising for the past four years. However, house prices are not rising in every country. As noted in our November 2016 Quarterly Update, house price developments in the countries that make up the index fall into three clusters: gloom, bust and boom, and boom.

The first cluster—gloom—consists of countries in which house prices fell substantially at the onset of the Great Recession, and have remained on a downward path.

The second cluster—bust and boom—consists of countries in which housing markets have rebounded since 2013 after falling sharply during 2007–12.

The third cluster—boom—consists of countries in which the drop in house prices in 2007–12 was quite modest, and was followed by a quick rebound.

This chart shows that house prices varies within a cluster and within a country. Recent IMF assessments provide a more nuanced view of the within-country house price developments.

For example, in Australia, the strongest house price increases continue to be recorded in Sydney and Melbourne, where underlying demand for housing remains strong.

In Austria, the cumulative increase in the house price index over 2007–2015 was nearly 40 percent. To a large extent, this increase was driven by price dynamics in Vienna.

Looking at Turkey, the housing market exhibits significant variations across cities. Regional variations have been further accentuated by the presence of almost 3 million Syrian refugees since March 2011. Cities near the Syrian border, which have absorbed larger masses of Syrian refugees, have seen significant rises in local housing prices since 2011, though they have moderated in recent years.


Country/region and city clusters

Gloom = Brazil (Rio de Janeiro); China (Shanghai); Croatia (Zagreb); Cyprus (Nicosia); Finland (Helsinki); France (Paris); Greece (Athens); Macedonia (Skopje); Netherlands (Amsterdam); Russia (Moscow); Singapore (Singapore); Slovenia (Ljubljana); and Spain (Madrid).

Bust and Boom = Denmark (Copenhagen); Estonia (Tallinn); Hungary (Budapest); Iceland (Reykjavik); Indonesia (Jakarta); Ireland (Dublin); Japan (Tokyo); Latvia (Riga); New Zealand (Auckland); Portugal (Lisbon); South Africa (Johannesburg); United Kingdom (London); and United States (San Francisco).

Boom = Australia (Melbourne); Austria (Vienna); Belgium (Brussels); Canada (Toronto); Chile (Santiago); Colombia (Bogota); Hong Kong, SAR (Hong Kong); India (New Delhi); Israel (Tel Aviv); Korea (Seoul); Malaysia (Kuala Lumpur); Mexico (Mexico City); Norway (Oslo); Slovakia (Bratislava); Sweden (Stockholm); Switzerland (Zurich); and Taiwan, Province of China (Taipei City).

Read more on IMF global house price studies and check out the Global Housing Watch site.

Houses aren’t more unaffordable for first home buyers, but they are riskier

From The Conversation.

Climbing house prices seem to scare people but houses are relatively more affordable today than they were in 1990, it’s actually interest-rate risk that’s the bigger problem for first home buyers.

If you look at latest numbers on house prices, as a measure of affordability, they use a “median measure” – that is, the ratio of median house price to median salary. According to the latest Demographia survey, the price of the median Sydney house is 12.2 times the median salary, and it is 9.5 in Melbourne.

But it’s simply misleading to compare median-based measures of housing across different time periods in the same location. These simple median measures do not take into account differences in interest rates in different time periods.

A house in 2017 that costs nine times the median salary, when mortgage interest rates are less than 4%, is arguably more affordable than a house in 1990 that costs six times the median salary. Interest rates in 1990 were 17%.

Consider this simple example. In 1990 a first home buyer purchases an average house in Sydney priced at A$194,000. With mortgage interest rates at 17%, the monthly mortgage repayments were A$2,765 for a 30-year mortgage. But in 1990 the average full-time total earnings was only A$30,000 per annum, so the buyer’s mortgage repayments represented over 111% of before-tax earnings. In 2017 a first home buyer purchasing a Sydney house for A$1,000,000, with interest rates at 4%, is only required to pay A$4,774 every month, or 69% of their before-tax average full-time total earnings.

So, relatively, houses are substantially more affordable today than they were in 1990. The lower interest rate means the costs of servicing a mortgage is lower today than it was 25 years ago, or even 50 years ago.

However, those lower interest rates also mean today’s first home buyers face greater perils than their parents or grandparents.

Interest-rate risk

Interest rate risk is the potential impact that a small rise in mortgage interest rates can have on the standard of living of homeowners. This does not consider the likely direction of interest rates, rather how a 1% change in interest rates affects the repayments required on a variable rate mortgage.

When interest rates rise so do mortgage repayments. But the proportional increase in repayments is higher when interest rates are lower. For example, if mortgage interest rates were 1%, then increasing interest rates by another 1% will double the interest costs to the borrower. When interest rates are higher, a 1% increase in interest rates will have a lower proportional affect on their repayments.

If we go back to the example from before, the interest rate risk of the first home buyer from 1990 is much lower than that of the 2017 buyer. If mortgage interest rates rose by 1% in 1990, repayments would rise by only 5.7% to $2,923. For the 2017 buyer on the other hand, a 1% increase in interest rates would see their repayments rise by over 12% to $5,368 per month.

This has the potential to financially destroy first home buyers and, due to the high reliance of the retail banking industry on residential real estate markets, potentially create a systemic financial crisis.

Interest rate risk has an inverse relationship to interest rates – when interest rates fall, interest rate risk rises. As a result, interest rate risk has been steadily increasing as mortgage interest rates have fallen. Given that we have record low interest rates at the moment, interest rate risk has never been higher.

Putting it all together

Compounding all of this is the general trend of interest rates.

In 1990 mortgage interest rates were at a record high and so our first home buyer could reasonably expect their repayments to decrease in the coming years. They could also reasonably expect that, as mortgage interest rates fell, demand for housing would increase (all else being equal) and so would house prices, generating a positive return on their investment.

But our 2017 first home buyer is buying when interest rates are at record lows. They cannot reasonably expect interest rates will fall or for their repayments to go down in future years. It’s also unlikely that house prices will increase as they have for previous generations.

So while the current generation of first home buyers find housing much more affordable than their parents, they face substantially higher interest-rate risk and a worse outlook for returns on their investment. If we wish to address the concerns of first home buyers we should look into these issues rather than exploiting misrepresentative median-based measures of house affordability.

Apart from addressing issues with the supply of housing, governments need to investigate ways to reduce interest rate risk over the longer term.

Author: Jamie Alcock, Associate Professor, University of Sydney


We would make the point that income growth is static or falling, prices relative to income are higher in many urban centres, and the banks are dialing back their mortgage underwriting criteria (especially lower LVR’s, reductions in their income assessment models and higher interest rate buffers). All of which work against lower interest rates, which are now on their way up, so this article seems myopic to us!

However, we agree the interest rate risk is substantial, and more than 20% of households are in mortgage stress AT CURRENT LOW Rates. We also think the risks are understated in most banking underwriting models, because they are based on long term trends when interest rates were higher.