Household financial pressures continue to build as the costs of energy rise, under employment lifts to a record and interest rates climb. Welcome to the Property Imperative weekly to 17th June 2017.
Power bills will soar by hundreds of dollars next month in east coast states, and experts blame policy uncertainty in Canberra. Two major retailers, Energy Australia and AGL, have announced they will hike prices substantially from July 1. A third, Origin Energy, is expected to follow soon. Energy Australia will increase power bills by almost 20 per cent, roughly $300 more a year, for households in South Australia and New South Wales. Gas prices will go up 9.3 per cent in NSW and 6.6 per cent in SA, adding between $50 and $80 to annual bills.
In this week’s economic news, whilst the headline unemployment rate remained at 5.7%, there are significant state variations. Unemployment remains above 7% in South Australian, and below 3.5% in the Northern Territory.
The really important, yet under-reported data related to underemployment, which is at its highest level since records began in the 1970s. The trend estimate of underemployment worsened from 8.7 per cent in December-February to 8.8 per cent in March-May, which means around 1.1 million Australian workers are crying out for more hours.
Pressure on interest rates are likely to continue, with the FED lifting the benchmark rate, and analysts are suggesting the FED funds rate is likely to normalise at 3.5% by 2020, and U.S. 10-year bond yields will rise back above 4%. It seems they were prepared to look through weak first quarter consumption and GDP and underlines concerns about US unemployment falling too far below its equilibrium rate.
But there is a knock of effect, in that the T10 bond yield is directly linked to the price of money on the international capital markets, and as Australian banks, especially the larger ones are reliant on international funding, this will put upward pressure on mortgages rates here.
So, putting all this together, we expect pressure on household budgets will continue to grow. We expect the number of households in mortgage stress to pass 800,000 quite soon. That’s getting close to a quarter of households.
Analysis of the latest Westpac and Melbourne Institute’s consumer sentiment index, which reported at 96.2 in June 2017, shows the “time to buy a dwelling index” which is a subset of the consumer sentiment index was at 90.9 points and is hovering around the lowest levels seen since the financial crisis. Whilst Australians tend to be bullish on housing and its prospects, this data shows that sentiment towards housing has been consistently negative since February of this year.
Several more banks made changes to mortgage interest rates and underwriting standards. For example, Bank West reduced the maximum LVR on interest only loans to 80% and some loan rates will rise between 4 and 34 basis points for both existing owner occupied and investor loans. On the other hand, the bank will reinstate applications from non-Bankwest customers for standalone refinance of P&I investor purpose loans and dropped the rate for some new P&I investment lending.
CBA changed its serviceability buffers to fall in line with the other majors. For those taking out a new mortgage who already have an existing CBA home loan, line of credit or business loan, the bank will assess the ability to pay through an interest rate buffer of 7.25% p.a. or the current interest rate plus 2.25% p.a. minus any existing rate concessions (whichever is higher). For customers with an existing owner occupied/investment, line of credit or business loan with an external financial institution, CBA will apply a service loading of 30% to the current repayment amount.
Teachers Mutual Bank increased home loan variable and fixed interest rates by 10 basis points or 0.10%, for new business. It has 174,000 members and more than $5.3 billion in assets.
We are also seeing some banks tweak their mortgage origination strategy, as they power up owner occupied mortgage lending through their branch networks, whilst slowing the volume of loans written through the broker channel, and interest only loans to investors in particular. In a recent The Adviser survey, brokers who had experienced channel conflict were asked which type of loan their clients had been approached by their bank to refinance. Almost 74 per cent of brokers said clients with owner-occupier mortgages had been targeted.
The Senate Inquiry into the Bank Tax heard from industry participants this week. On one hand the Customer Owned Banking Association – COBA – the industry association for Australia’s customer owned banking institutions – mutual banks, credit unions and building societies said they welcomed the tax as it would help to rebalance competition in the Industry. They claim that the implicit Government guarantee, which the major banks enjoy, stacks the deck in terms of pricing.
On the other hand, the majors said that whilst they accept the tax will be imposed, the costs cannot be absorbed and will be passed on the customers, shareholders and staff members. They said the levy should be temporary, and should be extended to include foreign banks operating in Australia to level the playing field.
So what started as a cash grab by the Treasurer has morphed into a significant discussion about banking competition and funding. But the bottom line is, bank customers will pay.
Research released this week suggested that far from being the ‘bad guys’, property investors actually keep the Australian economy afloat. They found that federal, state and local governments collect about $50 billion in property taxes every year – with property investors paying substantially higher rates than owner occupiers. Every year property investors pay $8 billion in stamp duty, $7 billion in land tax, $130 million in council taxes, as well as tax on $7.5 billion of net rental gains. Property investors also declared gross profits of $50 billion on property sales in 2015, according to estimates, which would have attracted billions more in taxation revenue.
Our latest survey data indicates that forward demand for property is easing, driven by concerns about future interest rate rises, tighter bank lending rules and rising costs of living. This is confirmed by lower clearance rates at auction over the long weekend, and further indications are emerging that home prices are easing.
The net effect of these changes will be to apply a drag anchor to economic growth. Just how severe this braking effect will be remains to be seen, but I think we can safely say we are on a falling trajectory. What property investors choose to do suddenly becomes very important.
That’s the Property Imperative for this week. Check back next time for the latest update. Thanks for watching.
Bendigo Bank announced they have made a change to the treatment of Homesafe for cash earnings purposes to exclude any unrealised income or losses and associated funding costs. This will not change the statutory earnings report, when the full year results on released on 14th August.
Realised earnings from completed contracts will still be included, but the mark-to-market element will now be excluded. Interesting timing given the fact that home price growth looks to be stalling! This will probably reduce the volatility of earning going forward. But Bendigo had a 6% long run home price growth assumption.
The net effect will be a reduction in cash earnings. This change will remove any unrealised income or losses from cash earnings for the years ended 30 June 2016 and 30 June 2017 and future years’ results.
The great rotation is well underway as investors vote with their feet whilst first time buyers are getting greater incentives to buy into the market at its peak. Welcome to the Property Imperative Weekly for 3rd June 2017.
In this weeks review we look at changes to mortgage interest rates, new first time buyer incentives and new findings from our core market model, freshly updated to end of May.
We saw a litany of rate hikes during the week, and other changes to lending conditions. On Monday NAB reduced the maximum LVR for interest only loans from 95% to 80% for both owner occupied and investor purchasers. They also reduced the LVR for construction loans to 90%.
On Tuesday, AMP bank lifted its variable interest rate for owner occupied loans by 28 basis points and the bank also hiked fixed rates for owner-occupied and investment interest-only loans by 20 basis points. They dropped the maximum loan-to-value ratio for interest-only loans from 90 per cent to 80 per cent. On the other hand, fixed rates for owner-occupied principal and interest loans have decreased by 10 basis points.
On the same day Westpac reduced the LVR for new and existing interest only loans to 80%, across the board including both owner occupied and investment loans. They also said they would no longer accept new standalone refinance applications from external providers. But they waived the switching fees for borrowers who wanted to shift from interest only to principal and interest loans.
On Wednesday NAB offered new white label principal and interest mortgages through its Advantedge wholesale funder, with a maximum LVR of 80%, including at 4.24% loans to residential investors.
On Thursday, Teachers Mutual brought out a new hybrid combination mortgage, which limits the amount of the loan which can be interest only. They also increased the interest only loan rate by 40 basis points.
And on Friday, Bank West, the CBA subsidiary announced a new LVR band at 95% plus, with a mortgage rate of 5.29%, up by three quarters of a percent. Other lending will be capped at 95% LVR.
So mortgage rates continue to rise, especially for interest only loans, and investors; and underwriting standards continue to tighten. Many households will see their repayments rise, again, despite no change in the RBA cash rate, so adding to their financial stress.
This week we got the April lending data from the RBA and APRA. The Reserve Bank said housing lending rose 0.5% in the month, or 6.5% over the past year to $1.66 trillion dollars. Within this, owner occupied loans rose 0.55% whilst investment loans grew 0.36%, and another $1.1 billion were reclassified by the banks, making a total of $52 billion which is nearly 10% of the investment loan book. This ongoing switching should be concerning the regulators because it means that either the bank data is just wrong, or borrowers are deciding to switch an investment loan to an owner occupied loan to get a lower rate, but we wonder what checks are being done when this occurs.
The proportion of lending to productive business fell again, so housing lending is still dominating the scene to the detriment of the broader economy and sustainable long term growth.
APRA showed that the banks lifted their investor loans by $2.1 billion in April though all the majors are well below the 10% speed limit. The quarterly property exposures showed a fall in higher LVR lending, but interest only loans still well above the 30% threshold APRA set. But weirdly APRA warned that we should not use these statistics to access the impact of their latest moves, because the reported data is based on approved loans, whereas their measure is on funded loans. So plenty of wriggle room and more fog around the data.
Talking of wriggling, Wayne Byres gave evidence to the Senate Economics Legislation Committee and under sustained questioning said alarm bells were ringing on home prices and that we had entered a high risk phase. It is worth watching the video of the session, which is linked on the DFA Blog. The regulators continue to be coy about the issue, which by the way is confronting many other countries too. The truth is the financialisation of property is the root cause of the property bubbles around the world, and it will be very hard to tame. Australia is not the only country with a bubble.
Amid all this mayhem, and with bank stocks under pressure relative to the rest of the market, New South Wales released their housing affordability plan. NSW has perpetuated the “quick fix” approach to housing affordability, alongside taxing foreign investors harder and making changes to planning. The removal of stamp duty concessions to property investors may slow that sector, but the fundamental issue is that supply is not the problem many claim it to be.
First time buyers are potentially able to get up to $34,360, but we think this will just push prices higher. The new arrangements start 1 July, so we expect a slow June. With the enhanced incentives in Victoria and Queensland also coming on stream, we are expecting a pick-up in first time buyer demand as investor appetite slows. Our latest surveys show this rotating trend, and we will publish the detailed finding over the next few days. But already we see some investors are selling, to lock in capital growth, and some first time buyers have renewed their search to buy, on the back of the new incentives, and greater supply.
Meantime there was further evidence that property prices are indeed drifting lower . According to CoreLogic’s Home Value Index they fell in Sydney and Melbourne over the month of May, by 1.3% and 1.7% respectively. It is becoming increasingly clear the momentum is easing, so it now is a question of how far it eases down, and whether prices go sideways, or fall significantly.
We expect mortgage rates to continue to rise. ANZ said their new APRA risk weight for mortgages was now 28.5%, which was at the top end of expectations. But whilst this is higher than the sub-20 lows, it is still significantly lower than the regional banks capital weights, and even allowing for the bank tax, they remain at a capital disadvantage. We think APRA will lift capital weights further down the track, and when we take account of expected US rate rises also, mortgage rates will continue to climb. This feeds into, and reinforces the potential slide in prices. Whilst first time buyers may take up some of the slack, we think the market dynamic is morphing into something rather ugly.
And that’s the latest Property Imperative Weekly. Check back next week for the latest installment.
Property bubbles have been created by a combination of ultra-low interest rates, easy lending, rapid population growth, and an openness to foreign investment. Underlying it all is the financialisation of property.
It’s only natural for Australians to be obsessed with our own property market woes, but there is a whole world of bubbles out there waiting to be popped.
We chatter endlessly about prices in Sydney and Melbourne, which is unfair to the other capital cities. But it’s understandable, as 57 per cent of the nation lives in Victoria and New South Wales, according to Australia’s statistics bureau.
And we’re right to be concerned. Only this week, Citigroup chief economist Willem Buiter said Australia is in the midst of a “spectacular housing bubble”. He joined a great host of experts worried that our two main property markets have been running way too hot.
The numbers back him up. CoreLogic, one of our most widely cited property pricers, says Australian houses now cost 7.2 times the yearly income of a household, up from 4.2 times income 15 years ago.
Between the global financial crisis and February 2017, median dwelling prices almost doubled (+99.4 per cent) in Sydney, bringing them to $850,000, and in Melbourne (+85 per cent to $640,000), according to CoreLogic.
But we should not delude ourselves that a housing crisis is a uniquely Australian phenomenon. Cries of “Bubble!” are ringing out across the globe.
Sweden’s central bank boss Stefan Ingves this week issued a warning about sky-rocketing household debt and soaring property prices. Sound familiar?
In Switzerland, the cities of Zurich, Zug, Lucerne, Basel, Lausanne and Lugano face similar risks.
Then there’s Ottawa, Vancouver and Toronto in Canada – an economy comparable in size and composition to our own. As it has for Australia, the International Monetary Fund has told the Canadian government to intervene or risk an economic crash.
The International Monetary Fund (IMF) has issued similar warnings for Denmark, which is battling soaring prices in the capital of Copenhagen.
Most important of all is China. Prices rose 22.1 per cent in Beijing, 21.1 per cent in Shanghai and 13.5 per cent in Shenzen between March 2016 and March 2017, CNBC reported.
The warnings are familiar. “If young people lose hope, the economy will suffer, as housing is a necessity,” Renmin University president Wu Xiaoqiu said recently.
The difference is, if the Chinese economy crashes because of a housing market correction, it will echo throughout the world.
Hong Kong is fighting bubbles, too. Reports on its property market are full of “handsome gains” and an impending “burst“.
Closer to home is Auckland in New Zealand, where prices have also doubled since the GFC.
Despite Brexit, the mother country is hurting, too. There are periodic predictions that London will “finally burst” after years of rampant price growth.
So what’s going on? The consensus is that these bubbles have been created by a combination of ultra-low interest rates, easy lending, rapid population growth, and an openness to foreign investment.
Saul Eslake, a renowned Australian economist, told The New Daily there are “common factors” across these affected nations, including immigration. But he cautioned against shutting the borders.
“It’s wrong, it’s factually incorrect to deny that immigration has contributed to rising house prices. It has contributed to it. But I would argue that to respond to it by, as Tony Abbott among others has advocated, cutting immigration would be the wrong approach.”
Dr Ashton De Silva, a property market expert at RMIT University, also blamed demographic change across the globe.
However, Dr De Silva said each country’s unique factors should not be ignored.
“The fact that it’s happening the world over is important to note because there are many countries going through a very similar cycle, such as China,” he said.
“However, whilst we can take this overarching view, we need to be mindful that there is a very important local story going on. And that story is not always consistent.”
If Australia wants to beat its bubble, perhaps it should look to Singapore.
It was fighting rampant prices too until the government intervened and did two things: boosted supply by building a whole bunch of new apartment buildings, and dampened demand by hiking stamp duty and cracking down on foreign buyers.
Latest data from CoreLogic shows a continued slide in the major markets this month. Brisbane (inc. Gold Coast) are the only positive markets.
Still too soon to know whether this is significant, (there were changes made to their index last year which may impact the results), but the annual changes are still strong in the two largest markets.
The latest edition of our weekly roundup of property, finance and economics review is available. We discuss the latest economic news, recent developments in the bank tax debate and the latest mortgage pricing and volume data.
Watch the video or read the transcript.
This week, the latest updates from the ABS showed that the trend unemployment rate stuck at 5.8%, thanks to a large rise in part-time employment. In fact, employment was up by a very strong 37,400 in April after increasing by a massive 60,000 in March but the total hours worked was reported to have fallen by 0.3% in April and was down by 0.1% over the past two months. This may be because of changes in the ABS sampling. Many commentators suggest the true position in worse, but we do know that unemployment was above 7% in South Australia, and the number of older people seeking work also rose.
The latest wages data, showed that the seasonally adjusted Wage Price Index rose 0.5 per cent in the March quarter 2017 and 1.9 per cent over the year, according to ABS figures. This makes a bit of a joke of the strong wages growth rates predicated in the recent budget.
The seasonally adjusted, Wage Price Index has recorded quarterly wages growth in the range of 0.4 to 0.6 per cent for the last 12 quarters. However, private sector wages rose 1.8 per cent whilst public sector wages grew 2.4 per cent, so public servants are doing better than the rest of the population.
The pincer movement of higher inflation and lower wage growth now means that average wages are falling in real terms, especially for employees in the private sector. Not good for those with mortgages as rates rise flow though. This aligns with our Mortgage Stress data.
There was further heated debate about the Bank levy, with the Treasurer saying on ABC Insiders that the impost was a permanent measure and linked to the strong profits and competitive advantage the big four have thanks to the “too-big-to-fail” implicit guarantee from the government. He again said the costs of the tax should not be passed on to customers.
On the other hand, the banks put their own slant on the issue, saying that the costs would be passed on, and the levy was bad policy. Ex Treasury Boss Ken Henry, now the Chairman of NAB, suggested there should be an inquiry into the proposed tax and said it looked like something from the eighties, before all the free market reform.
The banks made submissions to the Treasury complaining about the short timeframes, and seeking a delay in implementation. ANZ suggested a delay till September 2017 to allow sufficient time for design of the legislation and also recommended the tax should be applied to the domestic liabilities of all banks operating in Australia with global liabilities above $100 billion. They concluded “There is no ‘magic pudding’. The cost of any new tax is ultimately borne by shareholders, borrowers, depositors, and employees”.
But the real debate should be framed by the excess profits the big banks make, and the unequal position the big four have thanks to the implicit government guarantee, meaning they can out compete regional and smaller lenders. In fact, the value of this subsidy is significantly higher than the 6 basis points being imposed. These are the very high stakes in play, and the outcome will significantly impact the future shape of banking in Australia. In fact, you could argue the big four receive the largest subsidies of any industry in the country – way more than, for example, the entire car industry.
In addition, the Australian Bankers Association is caught trying to represent the interest of the big four, and other regional players, including some who have supported the tax on the basis of it helping to level the competitive landscape. The ABA issued a statement to say there was no division, but there clearly is. Not pretty. Some have suggested the smaller players should create their own separate lobby group.
The latest lending data from the ABS showed that the mix of lending is still too biased towards unproductive home lending, at the expense of lending for commercial purposes. Overall trend finance flow in trend terms rose 1.3% to $70 billion, up $691 million. The total value of owner occupied housing commitments excluding alterations and additions rose 0.1% in trend terms, to $20.1 billion, up $26 million. Within the fixed commercial lending category, lending for investment housing fell 0.3%, down $44 million to $13.2 billion, whilst lending for other commercial purposes fell 2%, down $416 million to $20.3 billion. 39% of fixed commercial lending was for investment housing and this continues to climb. Most of the investment in housing was in Sydney and Melbourne.
The more detailed housing finance data showed that the number of owner occupied first time buyers rose in March by 20.5% to 7,946 in original terms, a rise of 1,350. In original terms, the number of first home buyer commitments as a percentage of total owner occupied housing finance commitments rose to 13.6% in March 2017 from 13.3% in February 2017.
The DFA surveys saw a small rise in first time buyers going to the investment sector for their first property purchase. Total first time buyers were up 12.3% to 12,756, still well below their peak from 2011 when they comprised more than 30% of all transactions. Many are being priced out or cannot get finance.
Lenders continued to tighten their underwriting standards for interest only loans, with CBA, for example, ending discounts, fee rebates and dropping the LVR to 80%, having in recent months imposed no less than three rate rises on the sector. ANZ tightened their lending parameters too, with the maximum interest only period reduced from 10 years to five years, tightening LVRs and imposing other restrictions.
Overall we think the supply of investor loans will reduce, and that smaller lenders and non-banks will not be able to meet the gap, so we are expecting loan growth to slow further, and the price of loans to rise again.
We also saw auction clearances stronger last weekend, so this confirms our survey results, that households still have an appetite for property, despite tighter lending conditions. Recent stock market falls and greater market volatility will play into the mix now, so we think there will be a tussle between demand for property, especially for investment purposes and supply of finance.
It is still too soon to know whether home price growth is really likely to turn, but the strong demand still evident in Sydney and Melbourne suggests momentum will continue for as long as credit is available at a reasonable price. So I would not write off the market yet!
And that’s it from the Property Imperative Weekly this time. Check back for next week’s summary.
Australians are concerned about housing affordability, so much so that 45.4% say they would be willing to see the value of their home stop growing to improve the situation, only 31.8% of those polled wouldn’t. An ANU poll shows 51.7% of Australians are also in favour of removing tax concessions like negative gearing.
The poll surveyed 2,513 people (representative of the population) and found 63.6% were willing to see an increase in supply of public housing. Only 32.3% are opposed to relaxing planning restrictions.
With these numbers in mind, it is perhaps surprising that state and federal governments have done so little of any substance in housing policy for decades, if anything they’ve contributed to the problem rather than improved the situation.
Potential policy changes that many believe will improve housing affordability, including removing or reducing tax incentives such as the capital gains tax discount or removing supply impediments, have all been considered too politically difficult by the current government.
The government has justified this by playing to the fear that the value of people’s home may decline or that more liberal planning arrangements may mean that new buildings may spoil the look and feel of local neighbourhoods.
The latest ANUpoll shows Australians are very concerned that future generations may be locked out of home ownership. Three quarters believe home ownership is part of the Australian way of life.
In terms of their own investments we found that nearly 68% of homeowners cite emotional security, stability and belonging as a reason for becoming a homeowner. In terms of security factors, 51% cite financial security, 42% refer to “renting is dead money” and 41% cite security of tenure and being able to “bang nails in the wall”.
Of those families who have an investment property (17% in this poll) the primary motivation for the investment was a “secure place to store money” (27.4%) closely followed by rental income (24.3%). Only 11.9% cited negative gearing as the primary motivator and 13.7% were motivated primarily by the capital gains discount.
Housing remains easily the most popular investment vehicle, with 30% saying their preferred investment for spare cash would be an investment property, followed by 18.5% preferring to upgrade their own home. Only 12.6% preferred shares as an investment.
In spite of recent talk of a housing bubble the general population is not particularly concerned with immediate price drops, with 85% expecting house prices to rise over the coming five years. Only 5.4% expect prices to fall and just 1.7% expect prices to decrease a lot.
If interest rates were to increase by 2 percentage points, 6.4% of mortgage holders expected to be in “a lot” of financial difficulty and 16.7% in “quite a bit”. Only 27.9% would be in no difficulty. While financial difficulty does not mean default, in mortgage markets it may not take a large share of loans to default to cause financial problems for an economy.
As pointed out earlier negative gearing was the least cited reason for property investment which suggests removing the incentive would at least not make a dramatic difference to the level of housing investment in Australia.
The ANUpoll shows that the public are concerned about housing affordability and where policy is directed at improving affordability they are likely to be supportive. The policy options, be they demand side – reducing tax incentives, or supply side – building more dwellings and/or relaxing planning restrictions, are available, but greater political nerve may be required to undertake such options.
Author: Ben Phillips, Associate professor, Centre for Social Research and Methods (CSRM), Australian National University
RBA Governor Philip Lowe spoke at the Economic Society of Australia (QLD) Business Lunch. Of note is the data which shows one third of households with a mortgage have little or no interest rate buffer, and that the Reserve Bank does not have a target for the debt-to-income ratio or the ratio of nationwide housing prices to income.
This afternoon I would like to talk about household debt and housing prices.
This is a familiar topic and one that has attracted a lot of attention over recent times. It is understandable why this is so. The cost of housing and how we finance it matters to us all. We all need somewhere to live and for many people, their home is their largest single asset. Real estate is also the major form of collateral for bank lending. The levels of debt and housing prices also affect the resilience of our economy to future shocks. Beyond these economic effects, high levels of debt and housing prices have broader effects on the communities in which we live. The high cost of housing is a real issue for many Australians and can have serious side-effects. High levels of debt and high housing costs can also reinforce the existing distribution of wealth in our society, making social and geographic mobility more difficult. So it is understandable why Australians are so interested in these issues.
At the Reserve Bank, we too have been focused on these issues in the context of our monetary policy and financial stability responsibilities. Our work has been in three broad areas. First, understanding the aggregate trends and their causes. Second, understanding how debt is distributed across the community. And third, understanding how the level of debt and housing prices affect the way the economy operates and its resilience to future shocks.
This afternoon, I would like to make some observations in each of these three areas.
Aggregate Trends
This first chart provides a good summary of the aggregate picture (Graph 1). It shows the ratios of nationwide housing prices and household debt to household income. Housing prices and debt both rose a lot from the mid 1990s to the early 2000s. The ratios then moved sideways for the better part of a decade – in some years they were up and in others they were down. Then, in the past few years, these ratios have been rising again. Both are now at record highs.
Graph 1
Although the debt-to-income ratio has increased over recent times, the ratio of debt to the value of the housing stock has not risen. This reflects the large increase in housing prices and the growth in the number of homes. Over recent times, there has also been a substantial increase in the value of households’ financial assets, with the result that the ratio of household wealth to income is at a record high (Graph 2). So both the value of our assets and the value of our liabilities have increased relative to our incomes.
Graph 2
Turning now to why the ratios of housing prices and debt to income have risen over time. A central factor is that financial liberalisation and the lower nominal interest rates that came with the lower inflation of the 1990s increased people’s ability to borrow. These developments meant that Australians could take out larger and more flexible loans. By and large, we took advantage of this new ability, as we sought to buy the housing we desired.
We could, of course, have used the benefit of lower nominal interest rates in the 1990s and the increased ability to borrow for other purposes. But instead we chose to borrow more for housing and this pushed up the average price of housing given the constraints on the supply side. The supply of well-located housing and land in our cities has been constrained by a combination of zoning issues, geography and inadequate transport. Another related factor was that our population was growing at a reasonable pace. Adding to the picture, Australians consume more land per dwelling than is possible in many other countries, although this is changing, and many of us have chosen to live in a few large coastal cities. Increased ability to borrow, more demand and constrained supply meant higher prices.
So we saw marked increases in the ratios of housing prices and debt to household incomes up until the early 2000s. At the time, there was much discussion as to whether these higher ratios were sustainable. As things turned out, the higher ratios have been sustained for quite a while. This largely reflects the choices we have made as a society regarding where and how we live (and how much at least some of us are prepared to spend to do so), urban planning and transport, and the nature of our financial system. It is these choices that have underpinned the high level of housing prices. So the changes that we have seen in these ratios are largely structural.
Recently, the ratios of housing prices and debt to household income have been increasing again. Lower interest rates both in real and nominal terms – this time, largely reflecting global developments – have again played some role. But there have also been other important factors at work over recent times.
One of these is the slow growth in household income. During the 2000s, aggregate household income increased at an average rate of over 7 per cent (Graph 3). In contrast, over the past four years growth has averaged less than half of this, at about 3 per cent. Slower growth in incomes will push up the debt-to-income ratio unless growth in debt also slows. This partly explains what has happened over recent years.
Graph 3
A second factor is that some of our cities have become major global cities. Reflecting this, in some markets there has been strong demand by overseas investors.
A third factor has been stronger population growth. Population growth picked up during the mining investment boom and, although it subsequently slowed, it is still around ½ percentage point faster than it was before the boom (Graph 4). For some time the rate of home-building did not respond to the faster population growth; indeed, the response took the better part of a decade. The rate of home-building has now responded and we are currently adding to the housing stock at a rate not seen for more than two decades. Over time, this will make a difference.
Graph 4
It is Melbourne and Sydney where population growth has been the fastest over recent times. Not surprisingly, it is these two cities where the price gains have been largest, and these price gains have helped induce more supply. Indeed, Victoria and New South Wales account for all of the recent upward movement in the national housing price-to-income ratio (Graph 5). In the other states, the ratio of housing prices to income is below previous peaks. So there is not a single story across the country. This is despite us having a common monetary policy for the country as a whole. Factors other than the level of interest rates are clearly at work.
Graph 5
In summary then, the supply-demand dynamics have been pushing aggregate housing prices in our largest cities higher relative to our incomes. With interest rates as low as they have been, and prices rising, many people have found it attractive to borrow money to invest in an asset whose price is increasing. The result has been strong growth in borrowing by investors, with investors accounting for 30 to 40 per cent of new loans.
This borrowing is not the underlying cause of the higher housing prices. But the borrowing has added to the upward pressure on prices caused by the underlying supply-demand dynamics. It has acted as a financial amplifier in some cities, adding to the already upward pressure on prices. The borrowing by investors is also obviously contributing to the rise in the aggregate debt-to-income ratio. Just like in the early 2000s, there is again a discussion as to whether these increases will continue and whether they are sustainable.
The Distribution of Debt
I would now like to turn to the distribution of housing debt across households. This is important, as it is not the ‘average’ household that gets into trouble. At the Reserve Bank we have devoted considerable resources to understanding this distribution. One important source of household-level information is the survey of Household Income and Labour Dynamics in Australia (HILDA).
If we look across the income distribution, it is clear that the rise in the debt-to-income ratio has been most pronounced for higher-income households (Graph 6). This is different from what occurred in the United States in the run-up to the subprime crisis, when many lower-income households borrowed a lot of money.
Graph 6
It is also possible to look at how the debt-to-income ratio has changed across the age distribution. This ratio has risen for households of all ages, except the very youngest, who tend to have low levels of debt (Graph 7). Borrowers of all ages have taken out larger mortgages relative to their incomes and they are taking longer to pay them off. Older households are also more likely than before to have an investment property with a mortgage and it has become more common to have a mortgage at the time of retirement.
Graph 7
We also look at the share of households with a debt-to-income ratio above specific thresholds. In 2002, around 12 per cent of households had debt that was over three times their income (Graph 8). By 2014, this figure had increased to 20 per cent of households. There has also been an increase, although not as pronounced, in the share of households with even higher debt-to-income ratios.
Graph 8
Another dataset that provides insight into distributional issues is one maintained by the Reserve Bank on loans that have been securitised. This indicates that around two-thirds of housing borrowers are at least one month ahead of their scheduled repayments and half of borrowers are six months or more ahead (Graph 9). This is good news. But a substantial number of borrowers have only small buffers if things go wrong.
Graph 9
At the overall level, though, nationwide indicators of household financial stress remain contained. This is not surprising with many borrowers materially ahead on their mortgage repayments, interest rates being low and the unemployment rate being broadly steady over recent years. At the same time, though, the household-level data show that there has been a fairly broad-based increase in indebtedness across the population and the number of highly indebted households has increased.
Impact on Economy and Policy Considerations
I would now like to turn to the third element of our work: the implications of all this for the way the economy operates and its resilience.
It is now commonplace to say that housing prices and debt levels matter because of financial stability. What people typically have in mind is that a severe correction in property prices when balance sheets are highly leveraged could make for instability in the banking system, damaging the economy. So the traditional financial stability concern is that the banks get in trouble and this causes trouble for the overall economy.
This is not what lies behind the Reserve Bank’s recent focus on household debt and housing prices in Australia. The Australian banks are resilient and they are soundly capitalised. A significant correction in the property market would, no doubt, affect their profitability. But the stress tests that have been done under APRA’s eye confirm that the banks are resilient to large movements in the price of residential property.
Instead, the issue we have focused on is the possibility of future sharp cuts in household spending because of stretched balance sheets. Given the high levels of debt and housing prices, relative to incomes, it is likely that some households respond to a future shock to income or housing prices by deciding that they have borrowed too much. This could prompt a sharp contraction in their spending, as they try to get their balance sheets back into better shape. An otherwise manageable downturn could be turned into something more serious. So the financial stability question is: to what extent does the higher level of household debt make us less resilient to future shocks?
Answering this question with precision is difficult. History does not provide a particularly good guide, given that housing prices and debt relative to income are at levels that we have not seen before, and the distribution of debt across the population is changing.
Given this, one of the research priorities at the Reserve Bank has been to use individual household data to understand better how the level of indebtedness affects household spending. The results indicate that the higher is indebtedness, the greater is the sensitivity of spending to shocks to income. This is regardless of whether we measure indebtedness by the debt-to-income ratio or the share of income spent on servicing the debt. If this result were to translate to the aggregate level, it would mean that higher levels of debt increase the sensitivity of future consumer spending to certain shocks.
The higher debt levels also appear to have affected how higher housing prices influence household spending. For some years, households used the increasing equity in their homes to finance extra spending. Today, the reaction seems different. This is evident in the estimates of housing equity injection (Graph 10). In earlier periods of rising housing prices, the household sector was withdrawing equity from their housing to finance spending. Today, households are much less inclined to do this. Many of us feel that we have enough debt and don’t want to increase consumption using borrowed money. Many also worry about the impact of higher housing prices on the future cost of housing for their children. As I have spoken about previously, higher housing prices are a two-edged sword. They deliver capital gains for the current owners, but increase the cost of future housing services, including for our children.
Graph 10
This change in attitude is also affecting how spending responds to lower interest rates. With less appetite to incur more debt for current consumption, this part of the monetary transmission mechanism looks to be weaker than it once was. There is, however, likely to be an asymmetry here. When the interest rate cycle turns and rates begin to rise, the higher debt levels are likely to make spending more responsive to interest rates than was the case in the past. This is something that we will need to take into account.
In terms of resilience, my overall assessment is that the recent increase in household debt relative to our incomes has made the economy less resilient to future shocks. Given this assessment, the Reserve Bank has strongly supported the prudential measures undertaken by APRA. Double-digit growth in debt owed by investors at a time of weak income growth cannot be strengthening the resilience of our economy. Nor can a high concentration of interest-only loans.
I want to point out that APRA’s measures are not targeted at high housing prices. The international evidence is that these types of measures cannot sustainably address pressures on housing prices originating from the underlying supply-demand balance. But they can provide some breathing space while the underlying issues are addressed. In doing so, they can help lessen the financial amplification of the cycle that I spoke about before. Reducing this amplification while a better balance is established between supply and demand in the housing market can help with the resilience of our economy.
There are some reasons to expect that a better balance between supply and demand will be established over time.
One is the increased rate of home-building. As we are seeing here in Brisbane and some parts of Melbourne, increased supply does affect prices. This increase in supply is also affecting rents, which are increasing very slowly in most markets.
A second reason is the increased investment in some cities, including in Sydney, on transport. Over time, this will increase the supply of well-located residential land, and this will help as well.
And a third reason is that at some point, interest rates in Australia will increase. To be clear, this is not a signal about the near-term outlook for interest rates in Australia but rather a reminder that over time we could expect interest rates to rise, not least because of global developments. Over recent years, the low interest rates in Australia have helped the economy adjust to the winding down of the mining investment boom. They have helped support employment and demand through a significant adjustment in the Australian economy. We should not, though, expect interest rates always to be this low.
It remains to be seen how the various influences on housing prices play out. Other policies, including tax and zoning policies, also have an effect. But increased supply and better transport could be expected to help address the ongoing rises in housing prices relative to incomes. These changes and some normalisation of interest rates over time might also reduce the incentive to borrow to invest in an asset whose price is rising strongly. To the extent that, over time, a better balance is established, we will be better off not incurring too much debt, and having housing prices go too high, while this is occurring.
I want to make it clear that the Reserve Bank does not have a target for the debt-to-income ratio or the ratio of nationwide housing prices to income.
As I spoke about earlier, there are good reasons why these ratios move over time. My judgement, though, is that, in the current environment, the resilience of our economy would be enhanced by an extended period in which housing prices and debt outstanding increased no faster than our incomes. Again, this is not a target or a policy objective of the Reserve Bank, but rather a general observation about how we build resilience.
Many of you will be aware that these issues have figured in the deliberations of the Reserve Bank Board for some time. This is entirely consistent with our flexible medium-term inflation targeting framework. With a medium-term target, it is appropriate that we pay attention to the resilience of our economy to future shocks. In the current environment of low income growth, faster growth in household debt is unlikely to help that resilience.
We have also been watching the labour market closely. The unemployment rate has moved up a little over recent months and wage growth remains subdued. Encouragingly, employment growth has been a bit stronger of late and the forward-looking indicators suggest ongoing growth in employment. We will want to see a continuation of these trends if the overall growth in the economy is to pick up as we expect. Stronger growth in incomes would of course also help people deal with the high levels of debt and housing prices. Overall, our latest forecast is for economic growth to pick up gradually and average around 3 per cent or so over the next few years.
To conclude, I hope these remarks help provide some insight into the Reserve Bank’s thinking about housing prices and household debt. As household balance sheets have changed, so too has the way that the economy works. Both from an individual and an economy-wide perspective, we need to pay attention to how the higher level of debt affects our resilience to future shocks.
A senior property data expert has warned Australians not to fall for “propaganda” claiming the Sydney and Melbourne housing markets have already cooled.
Even Treasurer Scott Morrison cited CoreLogic’s numbers on Friday to argue the housing market needed a “scalpel, not Labor’s chainsaw”.
“The concern here is that we’ve actually had the Treasurer refer to the index, basically to imply that he doesn’t really need to do that much more on affordability,” Mr Christopher told The New Daily.
“It couldn’t be further from the truth. Our opinion is that the market continues to boom and APRA [Australian Prudential Regulation Authority] will likely have to step into the market later this year.
“This is being used as propaganda, as an excuse for people to hold back from taking real action in the market.”
Unlike CoreLogic, SQM Research calculated that asking prices for houses rose over the last month by 1.1 per cent in Melbourne and 2.2 per cent in Sydney, coupled with steadily falling property listings and strong auction clearance rates around 80 per cent.
Falling listings were probably a sign that vendors were “holding back” because they expected prices to rise even higher, Mr Christopher said.
This is in stark contrast to CoreLogic, which estimated that Sydney’s dwelling values fell 0.04 per cent last month, while Melbourne grew by just 0.5 per cent. According to its index, combined price growth in the capital cities was the slowest month-on-month since December 2015.
CoreLogic is the most widely cited property pricer, at least among journalists, because it reports dwelling values daily and weekly. Its data formed the basis of most headlines reporting a ‘slowdown’ or ‘peak’.
However, CoreLogic’s own research director, Tim Lawless, urged “caution” last week about over-interpreting the company’s April numbers. He told The New Daily “potentially there is some seasonality creeping into these numbers”, as the index is generally moderated in April and May.
The Reserve Bank dumped CoreLogic as a data source last year over concerns about its methodology.
Mr Christopher said while the data continued to paint a picture of a booming market, he did not rule out a “slowdown” later in 2017, especially if regulator APRA cracks down further on bank lending.
By “real action” on affordability, he meant a temporary cut to immigration; incentives for migrants to move to regional areas; and the replacement of state-imposed stamp duties with a federal land tax.
Dr Stephen Koukoulas, an economist, warned that calling the end of the boom now would be “extremely premature and arguably a bit hazardous”.
He admitted he had been caught out “badly” in years past by making too much of month-to-month CoreLogic fluctuations, and urged others not to repeat the mistake.
“If we get another month of zero, well, the story builds. But so far I don’t think we’ve seen enough concrete evidence to say definitively this is the end of the boom,” Dr Koukoulas told The New Daily.
He also warned that vested interests could use CoreLogic’s numbers for their own ends.
However, the economist agreed the markets would eventually cool, perhaps as early as the second half of 2017.
“Look, it is going to cool, it is going to slow down, because it can’t keep going at that pace. There’s the APRA changes, many rate hikes by the banks, an oversupply in Brisbane apartments and Perth’s still looking dreadful,” Dr Koukoulas said.
“But to say there will be minus signs and a genuine ‘bust’, ‘correction’ or ‘slump’, that’s not going to happen. Or at least, I’d want to be see more evidence.”
An ideal scenario would be for price growth to stagnate at zero per cent in Sydney and Melbourne for the next five years while wages grow by 2 or 3 per cent (up from the current 1.2 per cent), he said.
“There is a problem in house prices in Sydney and Melbourne – there’s no question, I don’t think. Saving a deposit is difficult, even though once you’ve got the deposit you’re okay.”
Sydney home values remained unchanged in April, adding to a string of a data that points to a slowdown in property prices in the Australia’s largest city.
The April results mark the weakest monthly change in dwelling values in Sydney since December 2015 had a 1.2% fall, data from research firm CoreLogic showed today.
Apartment values fell 1.2% in Sydney last month. Melbourne values inched up 0.5%, while the increase across all capital cities was a mere 0.1%, the slowest pace in 15 months, the data showed.
The latest figures add to tentative signs of easing in Sydney, where prices have more than doubled since January 2009, prompting the Reserve Bank of Australia to voice concerns of financial stability risks and the banking regulator to tighten lending norms.
While the weekend’s new figures will be released later today, auction clearance rates in Sydney slipped last week, while growth in investor home loans, the primary drivers of the market, climbed at the slowest pace in six months.
This table shows the changes in dwelling values
“The softer results should also be viewed against a backdrop of an ever evolving regulatory landscape s which is firmly aimed at slowing investment and interest-only mortgage lending,” Tim Lawless, head of research at CoreLogic said. “The higher cost of debt, as well as stricter lending and servicing criteria, has likely dented investment demand over recent months.”
And this one points to the housing boom in Sydney and Melbourne
The Australian Prudential Regulation Authority last month directed banks to limit the flow of new interest-only lending to 30% of total new residential mortgage lending, as well as placing strict internal limits on the volume of interest-only lending loan-to-value ratios. It also urged banks to to restrain lending growth in higher risk segments and apply prudent buffers in assessing loan eligibility.
The 30% limit on interest-only loans, which are favoured by investors, compares to about 40% of all new mortgages now, a level that APRA said was quite high by international and historical standards.
While tighter lending can dent demand in Sydney, where more than half the new mortgage demand is from investors, CoreLogic cautioned against calling a peak after just a month of “soft results.”
“April, in particular, coincides with seasonal factors including Easter, school holidays and ANZAC day long weekend,” Lawless said.
Analysis of the latest Westpac and Melbourne Institute’s consumer sentiment index, which reported at 96.2 in June 2017, shows the “time to buy a dwelling index” which is a subset of the consumer sentiment index was at 90.9 points and is hovering around the lowest levels seen since the financial crisis. Whilst Australians tend to be bullish on housing and its prospects, this data shows that sentiment towards housing has been consistently negative since February of this year.
