Residex: There is no Australian housing bubble

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By Leith van Onselen

Residex has released its dwelling price results for August, which revealed flat growth for houses nationally (+0.02%), but a fall in unit values at the national level (-0.37%). Over the year, house values grew by 7.56% nationally, with unit values up by 8.61% (see next chart).

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As shown above, there is significant divergence in growth rates across the capital cities and regions, with Sydney and Melbourne leading the way.

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In the commentary that accompanies the release, Residex founder, John Edwards, goes out of his way to explain why he believes Australian housing is not a bubble. Let’s take a look:

Fortunately, growth in Sydney is slowing – but not as quickly as expected. Based on median household income, the affordability measure is now at historic highs. It takes about 54 per cent of after tax income to make loan repayments on the median value home of $852,500; it takes close to 8 times the annual median income to buy the median Sydney home. These ratios are extraordinarily high based on historical data.

Historically, at these levels our markets would fall in value. It is this high level of un-affordability that probably leads many to suggest that we are in a “housing bubble”. However, something has changed: The buyers in our markets. Our measure is likely no longer as valid as it once was, because the current buyers are no longer median income families. Median income families living in the median value areas of Sydney are largely renting.

Buyers of house and land are now second and third time housing buyers, with income levels which are much higher than the median income wage. Median income families who are buying are now buying on the city fringes where housing prices are slightly more affordable.

Okay, so according to Edwards, there is no bubble because ordinary people cannot afford to buy homes. Sounds like perverse reasoning to me.

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Edwards also predicts price growth above both inflation and probably wages over the coming 8 years, led by Sydney, Melbourne and Brisbane:

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The median value of properties in both Sydney and Melbourne are very high. In particular, Sydney is only $147,500 from breaching a median value of $1 million. The data indicates when each of the cities will pass the $1 million median property value, and the number of suburbs that will have a median value over $2 million.

If we assume the predicted growth rate in Table 2 is right, then Sydney will breach the million dollar median value in three years…

Melbourne is going to take much longer. Based on the predictions it is likely that Melbourne will have to wait until 2024 before reaching the million dollar median value…

These predictions seem nuts to me given the unwinding of the largest commodity price and mining investment boom in the nation’s history, the shuttering of the local car industry by 2017, and the associated income and employment shocks that are likely to follow over coming years.

Regardless, Edwards has more to say on why Australian housing is not a bubble:

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Now back to the “bubble”. In many respects, this question is one of definition; what characterises a “bubble”? When do they occur?

In my view, a market bubble exists when there is very significant growth in asset values and that growth in asset values is driven by borrowings. In more general terms it is driven by greed and lack of careful thought by both lenders and borrowers. It is excessive bank lending which allows leverage and preparedness by borrowers to pay unreasonable prices for property.

Are we in this situation currently? Nothing suggests we are. Banks and financial intermediaries are becoming a little more aggressive in working to maintain market share, however their risk management policies are acceptable. The driving force behind the growth in values seems to be existing home owners who have reasonable levels of income and assets to support their property purchases which are likely investments. In this situation the lenders can be more aggressive due to the capacity of borrowers to meet their obligations. Will interest rate increases cause these people problems? Probably only to a limited extent, due to the tax deductibility of interest; An interest rate increase of say 1 per cent for the average investor will impact on their cash flow much less than a home buyer as a 1 per cent increase for those on the marginal tax rate is around 0.5 per cent.

Will there be people who are going to get into trouble as a consequence of the current high house price growth cycle and the low interest rates? Yes, there are always people who over leverage and have changes in personal circumstance which cause issues.

So according to Edwards, Australian housing cannot be a bubble because prices are being driven by record investor demand, most of whom are negatively geared, and effectively paying their home a dividend in the hope that it returns them strong capital growth. Isn’t this the very definition of speculation, which in fact points to there being a housing bubble?

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About the author
Leith van Onselen is Chief Economist at the MB Fund and MB Super. He is also a co-founder of MacroBusiness. Leith has previously worked at the Australian Treasury, Victorian Treasury and Goldman Sachs.