House prices are falling and interest rates are rising, which is bad news for existing home buyers, and new home buyers too. Doesn’t sound right, but it is unfortunately true.
Unless we fix the underlying supply and demand problems in housing, lower house prices will only be temporary, and will in fact eventually lead to even higher prices.
It works like this. Current falls in house prices are directly attributable to higher interest rates. The higher interest rates are partly an effect of the RBA attempting to rein economic activity in, but even more an effect of the fall in confidence in the real economy caused by the sub-prime crisis in the US.
In the past in my experience when interest rates have risen it has caused a crash in house prices which has been exaccerbated by housing supply continuing to grow at the same time that the economy contracts or slows, leading to a decrease in demand at the same time as there is an increase in supply. The combination of the two led to a stagnation in the price of existing housing, and a dramatic decrease in the price of vacant land and speculative developments to a price which allowed the market to clear.
The sharply lower prices eventually allow new entrants to enter the market and housing prices stabilise and start to increase again.
This time there will be no over-run of supply, because we aren’t building enough housing to cope with the increase in the population to start with, and the increase in interest rates, and the sheer unavailability of money at any price for certain types of purposes, means that a dip in prices will increase the under-supply. So when rates come down again, there will be even fewer dwellings available per capita, which will lead to an even more severe increase in prices than would otherwise have been the case.
There are two things that Australian governments need to do to solve the problem. One is to increase the amount of housing available. This would have to involve a combination of fast-tracking development of existing land banks, as well as lowering regulatory and taxation barriers to building new housing. This could involve the government using its ample borrowing powers to provide funding that the commercial debt markets currently can’t – it could even be an investment opportunity for the Future Fund.
Another is to decrease unnecessary demand, and the easiest way to do this is to slow the immigration intake. This would mean that some industries would endure labour shortages, but in an economy which is now running at near capacity choices have to be made. Better that the population is housed at reasonable cost, than that, for example, restaurants have all the wait persons they need. I for one would be happy to cook at home, particularly if I owned it.
April 15, 2008 | Graham
What goes down will go up even higher
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I think that another reason why the RBA has reined in growth is that of a skills shortage.Rather than having a wages blow out that will make us less competitive economically,they have reduced the supply of money.Unemployement will rise for a while,but in the meanwhile,we must train people for the trades so we can build our infrastructure.
Our economy is totally out of wack,we have plenty of capital but are hamstrung by our litigious over protective mentality and incompetent State Govts.
For sale Graham,one slighty jaded Iemma Govt.What about a swap?
Comment by Arjay — April 15, 2008 @ 9:40 pm
“Another is to decrease unnecessary demand, and the easiest way to do this is to slow the immigration intake.”
Best idea yet. Stop immigration altogether.
Comment by Mr. Right — April 16, 2008 @ 2:01 pm
Graham:
You have certainly clarified a couple of factors in the overall problem.
Now for another couple of factors.
If you really want to see the supply of housing crash through the floor and see prices and rents skyrocket …. then all you would nave to do is:
[1]. Abolish negative gearing, and,
[2]. Impose capital gains tax on the sole residence of a house-owner who actually lives in that house.
Both are likely to come up in the next Budget – a “tough” Budget – because those planning the Budget just cannot help themselves.
They cannot help themselves because, for example, they were not born until after the ‘Forties so they have no personal experience themselves of funny little things like “key money”; nor can they imagine why anyone in their right mind would pay one hundred pounds for the residual gas left in the gas meter nor twenty pounds for a broken chair. They may have wonderful qualifications and extensive experience in the world of high finance but when it comes to what happens out on the street, they are woefully naive …. and that applies no which party holds parliamentary power.
Once capital gains tax is whacked onto the the houses of ordinary workers and pensioners, only the most desperate would be silly enough to put their house on the market …. without black-market tricks like “Look mate, I’ll sell you the old TV too, only $10 000, and the lawn mower for another $10 000”.
The government can have all the cross-matching and double-checks likes to prevent that sort of thing happening but the black market will beat them every time – because buyer and seller want to strike a deal and neither of them will run off to tell the government. Not even reintroducing the death penalty will stop the inevitable black market.
Get rid of negative gearing and you’ll get $1 000/week rents …. if you are lucky and fast.
Comment by Graham Bell — April 16, 2008 @ 9:57 pm
I don’t think they’re going to do either of those things Graham. There’s a lot of fashionable talk around about abolishing negative gearing, but the working class conservatives who’ve been determining elections in Australia for the last decade are the ones most likely to be into it, so Rudd is too politically smart to hurt them.
And capital gains on the family home has been a taboo for longer than I can remember.
Reading the tea leaves, it seems that the government is likely to back-down on finding the $15 B or so of savings it was talking about, using global economic circumstances as an alibi. In fact I think an equally strong reason will be that it’s hard to see a significant source of savings that wouldn’t involve pain to a demographic that John Howard has carefully targeted with a benefit.
Hence they’re looking for reductions in DFAT and defence – the out-of-sight-out-of-mind portfolio areas.
The history of post-80s Labor in Australia is that its main, and perhaps only, aim is to stay in power and divvy up the spoils with its support base. It’s no longer driven too much by ideology, or reformist zeal, a la Hawke, Keating, Cain, Burke, Dunstan, Bannon.
Comment by Graham Young — April 17, 2008 @ 1:41 am
Graham:
You are probably quite right; logic and common-sense say that you must be.
Hope you don’t mind, though, if I keep an eye open for any irrational, counter-productive, inadvertently costly measures in the Budget.
Comment by Graham Bell — April 17, 2008 @ 9:46 pm
Graham
You are right “Unless we fix the underlying supply and demand problems in housing, lower house prices will only be temporary, and will in fact eventually lead to even higher prices.â€
With 200,000 plus immigrants flying into Australia every year, not to mention increasing numbers of students and holiday makers the demand for housing is obviously increasing.
However, due to the strange logic of the government (this Labor one and the last group of losing Libs) direct assistance to get into housing is only given to investors. I need only sight here the 04 March 2008 scheme outlined by PM Rudd to offer $60,000 tax credit to investors in new rentals to make my point.
Imagine if that $60,000 tax credit had been offered to potential or recent home-buyers. The tax credit was supposed to solve the housing crisis by making housing more affordable.
What a joke. It made housing more affordable for investors and less so for home owners.
It was another slap in the face for those trying to enter the property market, a $60,000 slap in the face.
I agree, reduce immigration until the question of the most basic of needs is addressed (shelter) – say half the immigration intake.
Ban negative gearing or offer it to all comers, not just the more well-off in society – the tax-breaks-r-us brigade of residential property investors.
It is about time those in control thought of the next generation rather than how to destroy as quickly as possible the social cohesion that has existed up until now.
http://zzalanz.googlepages.com/firsthomeowner
Comment by alan — April 19, 2008 @ 11:58 am
Alan, I’m afraid I can’t agree with you about negative gearing. If you live in a house a large part of your repayments are the equivalent of rent, and rent is not, and should not, be tax deductible.
And making housing more affordable for investors has no effect on the total supply of housing, although it may affect the balance between renting and owning. It doesn’t matter whether a house is built for owner-occupiers or renters, it still adds to supply when it appears.
Comment by Graham Young — April 19, 2008 @ 11:20 pm