Australian housing remains very expensive, but the AMP’s chief economist, Dr Shane Oliver, says that’s being supported by an undersupply (as we saw with yesterday’s fall in building approvals). Expensive housing & high household debt levels are a risk but in the absence of higher unemployment, much higher interest rates or a big supply increase, a US style collapse in Australian house prices is unlikely.
The Australian housing market has been heating up again.
But can it continue?
The outlook for house prices is very important for Australians and the Australian economy.
Housing is the biggest investment most families undertake, poor affordability has significant social consequences and the unwinding of high house prices in the US shows the economic damage it can cause.
Australian house prices on the rise again
Australian house prices rose 13.6% last year and their strength seems to have continued into this year.
House prices in Australia have performed far better than those in the UK and US over the last few years, thanks in large part to the stronger performance of the Australian economy.
They are even stronger than China where house prices are up 10.7% over the last year.
So where to from here?
Australian housing is expensive and overvalued…
On most measures Australian housing is very expensive.
Australian house prices are well above their long term trend.
Over the last 80 years the trend rate of growth in real house prices has been 3% per annum, which is consistent with long term real GDP growth.
But since the mid 1990s house prices have risen well above trend and remain there (see the next chart).
It’s possible to rationalise the strength in house prices over the last 15 years on the grounds that house price to income ratios have been pushed up by the growth of two income families, lower interest rates on the back of the shift to low inflation, and financial deregulation, all of which have increased the amount of money people can borrow and hence pay for a house.
However, while this may be true it fails to explain why Australian house prices are so high on international comparisons, given these considerations also apply in other countries.
According to the 2010 Demographia International Housing Affordability Survey, Australian housing trades on a median multiple of house prices to annual household income of 6.8 times, compared to 5.1 times in the UK and just 2.9 times in the US.
According to the OECD using 2009 data the ratio of house prices to incomes is about 35% above its long term average which puts it at the top of end of comparable countries.
Similarly, house prices are high relative to rents.
According to the OECD the ratio of house prices to rents in Australia is 58% above its long term average.
This is well above most other comparable countries.
It is reflected in a gross rental yield of just 3.5% on houses and 4.5% on units, which is well below the 7% plus net rental yield available on directly held commercial property.
Finally, the rise in house price to income ratios over the last 20 years has gone hand in hand with a large rise in household debt.
In 1990 the ratio of household debt to annual household disposable income in Australia was less than 40% and at the low end of OECD countries.
Now it is 155% and at the high end of OECD countries.
Naturally, this has led some to fret that the Australian housing market is a giant bubble at risk of collapsing at some point.
…but it is also undersupplied
However, as has been apparent over the last couple of years, there are a number of positives underpinning the Australian housing market.
The big positive for Australian house prices is a major undersupply of housing.
The last few years has seen the supply of dwellings lag underlying demand.
This reflects both a surge in demand on the back of record immigration levels but also restrictive development laws which have constrained supply, and the GFC which has constrained finance for developers.
Cumulative under building over the last few years is probably around 120,000 dwellings.
This year Australia will probably start about 165,000 dwellings but underlying demand will be around 200,000.
The undersupply is reflected in continuing low vacancy rates in rental housing.
Under building contrasts with the massive housing oversupply that arose during the US housing boom.
On top of this, the Australian housing market didn’t see the same deterioration in lending standards that occurred in other countries.
Homeownership rates haven’t increased – in fact they have fallen for the typical first home buyer age group.
Most of the increase in mortgage debt over the last few decades went to older and wealthier Australians and this is all reflected in a relatively low mortgage arrears rate despite the debt increase.
So these factors are helping to support Australian house prices despite the fact they
