If you look at the housing data over the last 15 years it has been a bit of a rollercoaster. The boom period of the early 2000’s saw significant increases in the house prices which was sharply curtailed by the Global Financial Crisis in 2008. Following the GFC the RBNZ embarked on an expansionary monetary policy with near zero level interest rates which saw rebound in house prices up to 2016. However up to 2018 price increases start to plateau as the economy entered a phase of slower growth with average household debts reaching 162% of their disposable income and this debt-fuelled growth proved unsustainable.
Since the first lockdown in 2020 prices have escalated and this could be partly due to the fact that as well as demand outstripping supply, people have spent more income on refurbishing their house for a future sale. This came about by their inability to spend money on holidays or overseas trips. So why is there a forecast of decreasing and even negative house price increase? Below are some reasons:
Increase in official cash rate (OCR) from the RBNZ will be passed onto consumers – higher mortgage rates – see graph below showing the correlation between interest rates and house prices.
The tightening of lending regulations by the RBNZ – debt-to-income limits on mortgage lending.
With the borders being closed population growth has decreased significantly and therefore less demand.
There is less of a financial incentive for developers as material and labour costs have risen rapidly. Also a cooling housing market could lead to fewer projects.
One of the functions of money discussed in the AS Level course is store of value. In 2010, after the GFC, gold became a popular as a store of value rather than as an adornment and its price rose from $700 an ounce in 2007 to $1264.90 in June 2010. A similar situation has become apparent in 2016 with property.
New Zealand seems to be seen as the safe ‘store of value’ for overseas investors in that they have purchased a large number of expensive properties in the local market. Although they only account for 3% of all New Zealand properties sold, overseas purchases have focused on properties over NZ$1m which have increased by 21%. This in turn has pushed up property prices nationally by 13%. Other countries have also seen the impact of foreign money.
*London – property prices are up 54% in four years
*USA – Chinese investors have bought 29,000 US homes for $27bn. mainly in San Francisco, Seattle, New York and Miami.
In many of these countries affordability looks stretched. The Economist gauges house prices against two measures: rents and income – see graph. If, over the long run, prices rise faster than the revenue a property might generate or the household earnings that service a mortgage, they may be unsustainable. By these measures house prices in Australia, Canada and New Zealand look high. In America as a whole, housing is fairly valued, but in San Francisco and Seattle it is 20% overpriced.
In most cases property maintains a good store of value with its intrinsic value. However gold’s main use is for jewelry, especially in India and China, and it has been quite strange that the price should remain so high at certain times without any changes in the fundamentals of supply and demand. Also why has gold maintained such value as a commodity without any real intrinsic value – its price being based on nothing more than a common belief its value is going to appreciate. Much like the tulip bubble in Holland in 1636.
The IMF’s Global Housing Watch recently ranked Australia as the third least affordable place in the world to buy a house. According to the IMF, the current ration of housing prices in Australia to average incomes is 31.6% above the historical average with New Zealand not far behind – see graph. The fact is that a significant number of the younger generation have been shut out of the property market and it doesn’t seem likely to change in the near future. The concentration of property ownership in the hands of the few will further increase global inequality which has it roots going back to the days of the classical economists.
David Ricardo argues that when population and output begin to grow steadily land becomes scarce relative to other goods. This in turn will lead to ever-increasing property prices and rents. Ricardo’s fear was that without government intervention by taxation on land value landowners would inevitably claim a greater share of national income, as the share for everyone else dwindled. However, Ricardo’s beliefs didn’t eventuate as the Industrial Revolution led to the decline of agriculture, and consequently a decrease in the value of farmland. But todays urban real estate prices is the farmland of the 1800’s and Thomas Piketty sees the long-term future as one of ‘economic, social, and political disequilibria of considerable magnitude’. Locking young ambitious people out of the property market can lead to feelings of powerlessness, disconnectedness, and disengagement can take root. Rising social unrest from increased inequality undermines trust in government and young people are left frustrated as pay trends fail to match a general improvement in educational attainment.
For most of the developed world property inequality needs to be addressed as home ownership for the youth of today is looking like a common misconception.
Between 2007 and 2010 house prices in Dublin fell by 56% and had a devastating effect on the banking system in Ireland. Is there going to be a correction in the Auckland housing market of a similar ilk?
Brian Gaynor touched on this in his column in the NZ Herald on the 16th May. Today there are some similarities to the boom in Dublin house prices and that of Auckland. These included:
1. The media painted a picture of escalating house prices and a property boom
2. Purchasers queuing overnight to buy a section or a newly built house
3. Banks offering cash incentives on home loans.
4. Very low mortgage interest rates
5. Auckland’s house prices have increased by 12.4% in the last 6 months. By comparison Dublin’s house prices never increased by more than 12% in any six month period during the boom.
6. Mortgage debt in New Zealand is now above $200 billion – doubling in 10 years. The majority of the debt being in the Auckland residential region. Consumer mortgage debt to disposable income in 2012 was 147% as compared to 58% in March 1991. In Ireland Bank lending it was 175% in 2008. Graph below shows a graph highlighting Ireland’s exposure to debt.
Bank lending to households and non-financial firms as a percentage of GDP for Eurozone economies and the UK, 1997 and 2008
What is a property bubble?
Property bubbles grow as long as buyers are willing to borrow increasingly large amounts in the expectation that prices will continue to rise. This process inevitably hits a limit where borrowers become reluctant to take on what start to appear as impossibly large levels of debt, and the self-reinforcing spiral of borrowing and prices starts to work in reverse.
You might have read my previous blog post on the Ghost Cities of China where 10 new cities are built each year but are nearly all empty. Reading in the FT, the Chinese property market faces a dilemma it that although property prices in cities are beyond the reach of the majority of the population, in the rural areas where the vast majority of the population still live, property prices have dropped significantly. With the lower prices developers are now less likely to build anymore houses. In the past the government has intervened so as to avoid a US style sub-prime type bubble situation but should it worry more about high prices in big cities or weak construction in the rural areas?
The key questions for Chinese policy makers are as follows:
1. Should it regulate house prices in cities which account for 25% of the market which will have an impact on prices outside cities?
2. Can the Chinese economy afford to have house prices to drop as property construction has accounted for around 15% of GDP in China?
With this potential loss of GDP the government has been making it easier for potential homebuyers to borrow money – see affordability index. Banks have given special offers for first home buyers and there has been pressure on contractors to build more economical houses.
House Price-to-Income Ratio
This ratio gives an indication of the affordability of housing. In China this is 7:1 as compared to most developed countries being 4:1. However in cities the ratio is much higher for example:
Shanghai – 12:1
Beijing – 11:1
Shenzen – 16:1
This makes it very hard for people to take a step on the property ladder. But even in some cities where the house price-to-income ratio is much lower – around 7:1 – house sales have not recovered that much. The main reason for this is the government’s home purchase rule which restricts consumers from buying a second home. Furthermore there is a tendency for potential buyers to now wait for prices to fall.
The Chinese authorities might find that it is just too hard to reduce prices in the cities at same time trying to increase construction in the rural areas.