The 9th Annual Demographia International Housing Affordability Survey has just been released and, once again, it ranks Australia as having one of the most expensive housing markets out of the countries surveyed.
This year’s report assesses 337 markets in seven countries: Australia, Canada, Hong Kong, Ireland, New Zealand, the United Kingdom, and the United States. The survey employs the “Median Multiple” (median house price divided by gross annual median household income) to rate housing affordability. This measure is widely used for evaluating urban markets, and has been recommended by, amongst others, the World Bank and the United Nations, and is used by the Harvard University Joint Center on Housing.
The Survey ranks urban housing markets into four categories based on their Median Multiple, from “Affordable” (3.0 or less) to “Severely Unaffordable” (5.1 & Over) [Table ES-1].
According to the Survey, Median Multiples were historically 3.0 or less in Australia, Canada, Ireland, New Zealand, the United Kingdom and the United States – a notion supported by the below chart from the Reserve Bank of Australia (RBA):
Whilst this affordability relationship is broadly present in many housing markets of the United States, Canada, and Ireland, the Median Multiple has escalated sharply in the past decade in the other housing markets covered in the Survey (Table 5).
Of the 337 housing markets surveyed by Demographia, a significant proportion of the unaffordable markets are located in Australia, with 30 ranked as “Severely Unaffordable” and nine “Seriously Unaffordable”. Australia currently has no housing markets ranked as “Affordable” or “Moderately Unaffordable”. Last year’s Survey contained only 25 markets in the “Severely Unaffordable” category. The increase this year is due to an expansion of the Survey’s coverage into a number of mining localities in Western Australia and Queensland, as well as some popular coastal locations (see next chart).
Hong Kong (China) and Vancouver (Canada) have the Survey’s most expensive housing markets, with Median Multiples of 13.5 and 9.5 respectively. Honolulu, USA (9.3), Bournemouth, UK (8.7), and Port Macquarie, Aust (8.6) round out the top five.
Overall, Australia has moved down the league tables, registering 8 out of the 20 most expensive housing markets identified in the Survey, but only four markets in the top ten (versus five in last year’s survey):
The overall decline of housing affordability in Australia (and the modest recent improvements) is clearly evident in the below Demographia chart, which shows the change in Median Multiples in Australia’s major urban markets:
Whereas all major Australian markets, except Sydney, had Median Multiples of three in the early 1980s, today all are ranked at around five or above.
One of the key contentions of the Demographia Survey is that higher land prices are the principal contributor to the rapidly increasing home prices in unaffordable markets. These land prices include the cost increasing influence of land supply restrictions (such as urban growth boundaries), excessive infrastructure fees and other overly strict land use regulations:
Overwhelming economic evidence indicates that urban containment policies, especially urban growth boundaries raise the price of housing relative to income. This inevitably leads to a reduced standard of living and increases poverty rates, because the unnecessarily higher costs of housing leave households with less discretionary income to spend on other goods and services. The higher costs ripple into rental markets, tightening the budgets of lower income households, who already suffer from lower discretionary incomes.
The principal problem is the failure to maintain a “competitive land supply.” Brookings Institution economist Anthony Downs describes the process, noting that more urban growth boundaries can convey monopolistic pricing power on sellers of land if sufficient supply is not available, which, all things being equal, is likely to raise the price of land and housing that is built on it.
Urban containment policy has been associated with greater price volatility and greater speculation. Investors and speculators are drawn to metropolitan areas where “quick” money is to be made, because of the inflexibility of the supply market.
And in the 2011 Survey, Demographia noted the following about Australia:
In Australia, 95 percent of the increase in inflation adjusted new house (and land) costs were attributable to land, rather than construction from 1993 to 2006. In more restrictively regulated San Diego, house prices were 250 percent higher than in Dallas-Fort Worth in 2007, yet cost only 15 percent more to build…
Demographia’s contention that Australia’s rising home prices have been caused primarily by escalating land costs is supported by evidence. The below chart shows aggregate Australian housing values relative to GDP broken down by the land component and the structure component. As you can see, almost all of the growth in Australian housing values (relative to GDP) has been in rising land values:
Further, this escalation of land costs has occurred across Australia’s housing markets, as evidenced by all capital city markets experiencing strong growth in vacant land values in the decade to 2012, according to RP Data:
A key reason for this land price escalation in Australia (as well as in New Zealand, the United Kingdom, and the expensive markets of the United States and Canada) is that the market’s ability to quickly provide low priced new housing supply is being hampered by restrictive land use regulations, many of which have come into effect since the mid-1990s (Sydney has had long-standing limits on housing development on the urban fringe). Demographia describes the key features and consequences of restrictive housing markets as follows:
Urban containment (More Restrictive Land Use Regulation) relies on intrusive land use regulation, and includes markets where residential development (new construction) is strongly controlled by comprehensive plans or development limits. Generally, it is an urban planning objective to make urban containment the only legal regulatory structure. There is a strong campaign to make the principal alternative, liberal regulation (below), illegal.
Urban containment may also be characterized by terms such as “densification policy,” “compact development”, “urban consolidation”, “growth management” “and ” smart growth.” Generally, urban containment regulation is “plan-driven,” as planning departments and governments determine where new housing is allowed to be built. There is a “negative presumption,” with new development generally prohibited, except in limited areas where it is permitted by government plans.
By severely limiting or even prohibiting development on the urban fringe, urban containment eliminates the “supply vent” of urban fringe development, by not allowing the supply of housing to keep up with demand, except at prices elevated well above historic norms. In addition to higher costly housing costs relative to incomes, the higher densities in urban containment markets are associated with greater traffic congestion and longer average work trip journey times.
Urban containment policies are normally accompanied by costly development impact fee regimes that disproportionately charge the cost of the necessary infrastructure for growth on new house buyers. There is particular concern about the cost increasing impacts of these fees, especially in Australia, Canada (Canadian Mortgage and Housing Corporation), New Zealand (New Zealand Productivity Commission) and California.
By contrast, affordable housing markets, like Texas and Georgia in the United States, utilise open market-based land use structures whereby plentiful new housing supply is able to be built quickly and cheaply on the urban fringe, thereby preventing rapid house price escalation. Demographia describes these markets as follows:
Liberal Land Use Policy (Less Restrictive Markets) applies in markets not classified as “urban containment.” In these markets, residential development is allowed to occur based upon consumer preferences, subject to reasonable environmental regulation. Generally, liberal land use regulation is “demand-driven” There is a presumption allowing land to be developed, except in limited areas, such as parks and environmentally sensitive areas. By allowing development on the urban fringe, liberal land use regulation allows the “supply vent” to operate, which keeps house prices affordable. Less restrictive regulation can also be called traditional or liberal regulation. In addition to lower costly housing costs relative to incomes, lower population densities in liberal markets are associated with less intense traffic congestion and shorter average work trip journey times.
So under an open market-based model (provided there are not also substantial physical barriers to housing supply), increased demand, such as from reduced lending standards and easier availability of credit, quickly leads to the building of additional low priced housing on the urban fringe, which helps keep house prices in check and reduces the likelihood of speculative housing bubbles developing. Further, highly leveraged speculators are less likely to be encouraged into open land markets, since there is little prospect of achieving strong capital gains. Investing in open land markets is, instead, more about rental yield.
That said, restrictive urban planning structures should not be viewed as a one-way bet for house prices. Demogrphia also notes that unresponsive land supply is more likely to result in higher levels of house price volatility and boom/bust price cycles. Why? Because strict land-use policies (planning) steepens the supply curve, which makes house prices more sensitive to changes in demand, increasing the likelihood of the housing market experiencing boom/bust price cycles as demand rises/falls. To highlight this point, Demographia provides a neat comparison between the liberal markets of Texas and Georgia, and the highly prescriptive and unresponsive markets of California and New York:
In Atlanta, Dallas – Fort Worth and Houston, with liberal land use regulation, there has been significant migration of people from other parts of the United States. Among the three markets, there was net domestic migration averaging 7.6% of their 2000 populations between 2000 and 2011.15. Despite this strong underlying demand, each of these markets remained affordable for virtually the entire period from 2000 through 2012.
In Los Angeles, New York and San Francisco, with urban containment regulation, there was significant net outmigration to other parts of the United States. The average net domestic outmigration from 2000 to 2011 was 10.3% compared to their 2000 populations. The net domestic outmigration figures were especially notable in New York and Los Angeles, which lost 2.1 million and 1.4 million residents respectively to other parts of the nation.
Despite significantly higher population growth in Texas and Georgia, house prices remained both more affordable and stable throughout the US bubble/bust era than in the restrictive markets of California and New York.
Full report below.