ANZ chief wrong on housing affordability

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By Leith van Onselen

On Wednesday, ANZ CEO Shayne Elliott told a Thomson Reuters function in Sydney that housing affordability was no worse today than 30 years ago due to the fall in interest rates. From The AFR:

Over 30 years, the average level of debt for the average household had increased… but the reduction in base interest rates from 18 per cent to 1.5 per cent meant that affordability was broadly unchanged.

What has changed, he said, was the amount required for a deposit.

“We are seeing an emergence of people that can afford to pay the mortgage, but can’t save enough to get started, and that’s a social phenomenon.”

He pointed to data that showed the percentage of first-home buyers requiring a parental guarantee had increased from 3 per cent to 18 per cent as evidence.

While I agree with Elliott’s comments about the difficult of saving a large deposit, he is wrong to suggest that falling mortgage rates makes housing affordability “broadly unchanged” from 30 years ago. In fact, I comprehensively debunked this claim in October.

The inherent problem with these types of affordability claims is that they only take into consideration initial repayments on new mortgages, not repayments over the full 25 or 30 year loan term.

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To highlight why this is nonsensical, consider the below extreme stylised example.

Scenario A (very low price, very high inflation, extreme mortgage rate):

  • Buyer has an annual income of $100,000.
  • They buy a house valued at $300,000, (assume no deposit).
  • The mortgage rate is 17%, which remains the same throughout the 25 year loan-term.
  • Inflation is very high and wages grow at 7% annually (i.e. 10% real mortgage rate).
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Scenario B (high price, very low inflation, very low mortgage rate):

  • Has an annual income of $100,000.
  • They buy a house valued at $700,000 (assume no deposit).
  • The mortgage rate is 3.5%, which remains the same throughout the 25 year loan-term.
  • Inflation is low and wages grow at 2% annually (i.e. 1.5% real mortgage rate).

In case you haven’t noticed, Scenario A is a proxy for the late-1980s home buyer, whereas Scenario B is a proxy for today’s home buyer.

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It should be noted at the outset that while mortgage rates briefly hit 17% in 1989-90, they did not stay there for long. They have also never been as low as the 3.5% assumed above (see next chart).

ScreenHunter_15708 Oct. 26 19.27

Similarly, real mortgage rates were only 10% briefly throughout the late-1980s and early 1990s (see next chart).

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ScreenHunter_15709 Oct. 26 19.30

Nevertheless, even in the extreme example above, the buyer in Scenario A only pays more in mortgage repayments for the first six years (see next chart).

ScreenHunter_15710 Oct. 26 19.42
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Thanks to the wonders of high nominal inflation and wages growth (and even in the face of a 10% real mortgage rate), Buyer A’s mortgage debt is inflated away quickly such that their mortgage repayments are:

  • 28% of income after 10 years;
  • 20% of income after 15 years;
  • 14% of income after 20 years; and
  • 10% of income in the final year.

Buyer B is not nearly as lucky, since their repayment burden remains high in the face of low inflation and wages growth, even though they face a ridiculously low real mortgage rate of just 1.5%. Buyer B’s mortgage repayments are:

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  • 35% of income after 10 years;
  • 32% of income after 15 years;
  • 29% of income after 20 years; and
  • 26% of income in the final year.

Therefore, low inflation and low nominal wages growth – as exists currently – means that a huge mortgage taken-out today will remain a very big mortgage for decades to come.

Coincidentally, today’s home buyer also faces the worst mortgage repayment burden in recorded history (again, see October’s post for specifics):

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ScreenHunter_15711 Oct. 26 19.44

It would be nice if analysts, when talking about housing affordability, considered the mortgage repayment burden over the life of the loan rather than only at the very beginning.

Rather than low inflation/interest rates being a benefit to today’s home buyer, it will instead act as a millstone around their mortgaged necks for decades to come.

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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.