Household debt “most likely” will not rise

From Professor Rodney Maddock of the Funding Australia’s Future Project comes a measured study of the prospects for increased household borrowing. I’ve bolded the key passages. I would frame his dicussion differently but I largely agree with its conclusions.


By historical standards, the unusual feature of Figure 1 above is the fact that the household sector borrowed heavily during the decade centred around 2000. Historically and in most economies the household sector has been a net saver, the corporate sector a net borrower, and the government relatively neutral. The period of increasing household leverage, most notably at the upper end of the income distribution, is only matched in our history by the run up towards the 1890s recession. Australian household leverage is towards the top end globally although over the past five years it has levelled out (Stevens 2011). Our central case assumption will be that households maintain their current level of borrowing as a proportion of their disposable income sustaining their current levels of gearing.

The increase in debt from about 1990 more than offset the reductions in interest rates resulting in a sharp rise in the debt servicing ratio of households. While their debt to income ratio stabilized after 2003, it was only after the large decline in interest rates post the financial crisis, that the debt servicing ratio has fallen. Households appear to have been happy to increase their debt prior to the crisis because of the large increases in the value of their assets (especially houses and shares). The subsequent decline in house prices, and the fall in the equity market, reduced the value of household assets. This has played an important role on the asset side of the balance sheet.

As is clear from Figure 1, faced with an increase in economic uncertainty, households have responded by stabilizing and then increasing saving. This, combined with the fall in interest rates has allowed households to move well ahead on the debt repayments. The combined impact of these factors has reduced aggregate household vulnerability to any economic shock, most notably in unemployment. The Funding Australia’s Future Project.


Rising household debt was a feature of most OECD countries over the past couple of decades, driven by the same drivers – lower interest rates and deregulation of financial markets. When measured by debt-to-income ratios (whether household income or GDP), Australian households moved from being very under leveraged by international standards in the early 1990s, to being towards the top end of the household debt table by global standards by 2010 (Figure 4). Using alternative measures of leverage, such as the debt-to-assets ratio, Australia’s leverage does not appear as high by global standards.


This reflects the large run-up that has taken place in house prices in Australia, although higher financial asset prices has also played a part reflecting the strong weighting of Australian saving portfolio directed towards equities.

The bulk of the rise in household debt has been caused by mortgage debt, and the main driver of total mortgage debt has been the increased size of mortgages taken out. In this, the trend in Australian house prices does not appear very different from prices elsewhere. Figure 6 below tracks the upper and lower bounds of movements for a range of countries which suggests global explanations for the broad upwards shift: lower inflation and financial liberalization seem the most likely candidates (Ellis 2006).


In Australia’s case not all households participated in the move to pay more for houses. The evidence from the HILDA survey is that the bulk of the increase in mortgage debt held by Australian households has been undertaken by the wealthiest quintiles of the population.

Indeed, in 2010 the top income quintile accounted for almost half of total debt, while the top two quintiles accounted for over 70 per cent of debt. The survey also indicates that the largest increase in gearing has taken place in the wealthiest income quintiles (Connolly and McGregor 2011). Relative to countries with similar financial systems (the US, Canada, UK and New Zealand), the proportion of middle and higher income households that hold debt is about the same as Australia.

Our view of household borrowing as growing about in line with nominal income is based upon the view that households have adjusted to the new lower level of interest rates, and have reached a new equilibrium level. But there is no certainly that households will maintain their current levels of leverage.

International comparisons suggest that household leverage can be higher than our central case assumption. Canadians hold a higher level of debt than Australians relative to their income (Figure 4), although it is noticeable that their debt servicing ratio is lower than Australians’. And keeping current debt per head levels constant, a rise in the number of households borrowing towards the level of the UK would see an extra 5-10% of households hold mortgages. However the general pattern revealed in Figure 5 above suggests that for Australians to increase their leverage ratio, interest rates would probably have to be lower to allow them to maintain their debt servicing ratios at about the current level. An extended period of low, or even negative, real interest rates could be expected to lead to an increase in borrowing.

It is also clear that richer Australians have greater capacity to invest in property should they choose to do so.

On the other hand declines in household leverage were also observed in the Netherlands, and the Nordic countries following their recessions of the early 1990s. In Sweden during its crisis of the 1990s the debt to income ratio fell from about 135% of household disposable income to under 90% with the adjustment taking about six years. The precursor was a large run up in household debt, a financial crisis, and then a significant economic recession.

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Accordingly, the decline in household debt was both a demand side shock (households reducing demand for credit because of higher unemployment) and supply side shock (banks offering less credit as they tried to fix their balance sheets). (Remember that Sweden nationalised banks, and established a separate bad bank, to keep the banks operating as normally as possible: as the chart shows, rates rose: Ergungor 2007).

The high level of household debt in Australia means that households are more sensitive to expected changes in income. And with most of their debt sitting on bank balance sheets, this makes the banking sector more vulnerable to a significant rise in household debt, particularly if it coincides with a major correction to house prices. This scenario is one that is very widely recognized. Indeed, it is the basis for many of the stress tests run by the banks and APRA (Davis 2011). These stress tests typically also assume that there will be a substantial slowing of household credit growth, if not an outright decline.

Summary: We believe that the most likely course is that household demand for debt will broadly grow in line with income growth. The recent volatility in global economies and declining asset price growth is likely to have had a long-lasting and moderating impact upon household demand for credit.

This scenario assumes that there will be a moderate decline in the terms of trade over the next few years, and the policy and exchange rate response will be appropriate. In the event of a more substantial decline in the terms of trade, and without an offsetting exchange rate and policy response, there may well be a substantial decline in national income. What happens to nominal levels of debt obviously depends on what happens to inflation and underlying macro management (Gale and Orszag 2004).

It is easy to envisage scenarios for both higher and lower household leverage. Although households have had a ‘scare’, the fact that there has not been a sustained rise in unemployment means that the caution on spending exhibited post-GFC might be temporary. International comparisons also suggest that there is scope for the proportion of lower income households to hold mortgage debt to increase.

In effect while our central belief is that household demand for credit appears likely to stabilize at around the current levels, a movement (possibly significantly) in either direction is a decent possibility.

FAF the Future Demand and Supply of Finance by David Smith

Houses and Holes
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  1. OK then, so its not that Australia’s future needs to go massively into debt to provide a dividend to babyboomer rentseeking specufestors.

    its that

    Australia’s future needs to go massively into debt to provide a dividend to richest quintile rentseeking specufestors.

    …..and government policy (ALParatchik or Torynuff) is to pay these people off in order to stimulate demand in the economy.

  2. So debt may moderate broadly in line with income growth, but could go up or down, possibly significantly…. The argument here is: all scenarios are possible?

  3. “Summary: We believe that the most likely course is that household demand for debt will broadly grow in line with income growth.”

    Income “growth”? Er …

  4. As I see it, Australian households have to sit-still for the above scenario to work out well. If they don’t, and borrow to buy at a rate above any real income increases, then the application of that increased debt to non productive means will likely make your economy more prone to some future rebalancing. If household on the other hand save, pay down the mortgage etc then that will have a spill-over effect on property prices and see them fall; a rebalancing effect, now, rather than later. Only by sitting still will ‘nothing’ occur, and I don’t see that happening!

    • @Janet – re this comment “then the application of that increased debt to non productive means will likely make your economy more prone to some future rebalancing” – you need to understand that the allocation of debt, ie to “business” or “household mortgage” etc, merely reflects the purpose for which loan was originally written, and the security put up for it.

      An existing house purchase is neither productive nor unproductive – it’s essentially a zero-sum transaction.

      Person A takes a loan, and buys a house from person B, in exchange for the borrowed money + some cash. Person B then does something else with that money, which might be to save it, invest it, spend it, start a business with it or whatever. No matter how long the house transaction “chain” you imagine, it starts as described at one end and ends as described at the other.

      Also – remember many small business people secure business loans with their house. Is that “unproductive” money being lent? I think not.

      And from a macro-risk / financial system stability perspective, it is actually BETTER that loans are secured against less volatile assets like houses, rather than businesses, shares etc. Risk of default, and losses in the case of default are lower for the system this way, and interest rates / costs are lower for borrowers as well, which DOES have a POSITIVE impact on economic productivity.

      Bottom line – the line that borrowing for existing houses is an “unproductive use of capital” does not stand up to any serious scrutiny.

  5. Seems the average punter has got used to CPI+ wages growth (even if productivity has fallen), and with interest rates at “record lows” I suppose we should expect to see an upward bump in household debt.

    It will be interesting to see what happens first: the realisation of negative real wages growth, or the realisation that interest rates will go up

  6. Household debt will keep growing as the RBA’s mission to penalise savers continues. With imported inflation likely to rise getting any sort of yield in saving accounts will become impossible, forcing people into speculation driven markets to a rousing chorus of cheerleading from the property complex and narrowly owned mainstream media.

    Kaynesian mainstream economists will applaud the multiplier effect of greater bidding up of existing dwellings, property will roar to new highs like Auckland leaving a population suddenly feeling more wealthy again which will bring on another round of ATM equity spending. I personally would have thought the lessons of the GFC would have taught people to be more fiscally prudent, but Auckland is proving that financial memories don’t last more than 5 years as confidence is hitting new highs and debt fueled consumption springs forth.

    Genuine savings levels will fall, leaving the public more and more susceptible should a meaningful property correction happen. The Willy Wonker wealth affect will ultimately leave Aussies with less savings when they will need it most.

      • I think in the short term property is the play. The government and RBA is desperate to replace the mining investment boom, and the results in Auckland must look very promising to them.

        I am bearish for property in the long term as double digit growth in property pushes prices to natural limits, especially with income growth having big headwinds as $200,000 jobs sitting on rollers start to dry up.

        The problem as in investor with property is it is very non liquid. Selling a place and settling takes weeks sometimes months – so there is danger in playing it for short term gains. No one wants to be holding a $600,000 mortgage should the music stop.

      • Because it could be some years between now and a crash? Comes back to timing.

        I’m very wary: but depending on how mad it gets, house prices could rise and crash above what you pay now!

        I just can’t shake the feeling that everything that has happened to house prices – the decline, and now recovery – just confirms the religion. You buy the dips.

        If this recovery continues it is going to take a lot to shake the ‘infallibility’ of house prices.

      • Redmond said:

        ‘The problem as in investor with property is it is very non liquid. Selling a place and settling takes weeks sometimes months – so there is danger in playing it for short term gains. No one wants to be holding a $600,000 mortgage should the music stop.’

        This is an excellent description of the main risk of property as an investment. Depending on circumstances, all investments can increase or decrease in value. The biggest risk of property is that it is illiquid.

        Also, property investments carry such high opportunity costs – stamp duty is the worst. There are plenty of progressive thinkers out there who would prefer to see this replaced by higher land tax which would discourage hoarding and encourage labour mobility.

    • If the RBA had any sway, it would urge the RBNZ to whack Aucklanders over the head with a series of OCR rises; fast and hard, to say 4%. (NB: NZ interest rates have historically been about 2% over Aussie rates anyway) Then perhaps the shock of seeing what can happen to a previously impregnable property market might chasten Australians. But given the interrelationship between the two countries, one-banking systems…perhaps supporting the RBNZ with swap lines is the way they will go!.

      • Janet, unfortunately central bankers in the mould of former Fed chairman, Paul Volcker, no longer exist. But agree that a sharp unexpected rise in interest rates would help clear the market of the rampant highly leveraged speculation madness of the last 2 decades.

    • It’s not much better in the United States. The bubble popped a mere seven years ago and there is a new bubble back in real estate. I only hope I have time to sell my house before the Fed raises interest rates to cool it off.

  7. A few observations:

    1. If high income households have the most debt and are well able to service them why is the RBA cutting rates to force savers to subsidize the repayment of their loans.

    2. If savings rates has risen and many high income people are now ahead on their repayments why has the overall level of household debt barely responded to record this deleveraging. One reason may be that as high income earners are leaving through the debt out door ( courtesy of savers) new contestants are entering through the indoor.

    The big difference of course is that the new contestants are buying assets at the top of the market. They are eating the RBAs low interest bait – to their peril.

    3. The ‘new higher plateau’ theory of household debt is absurd when it requires emergency low interest rates to support it.

    It is less a plateau and more a water saturated slope of loose fill waiting for the next light shower.

    The policy of inducing people to take on debts to buy over priced assets with record low rates is immoral.

    To do so by allowing our TBTF banks to borrow 30-40% of the money overseas and thereby put upward pressure on the exchange rate is brain dead.

    • Most home owners are simply not tapping into their equity to borrow, and they haven’t been doing that since August 2008. There has been a significant change in the mindset of well established borrowers.

      Their focus is now to pay down their debt.

      • Yes – That seems to be the case which is the point I am making. Those best positioned to manage debt are reducing it yet clearly someone is taking on debt to keep the overall level of household debt stable.

        My concern is that those people may are be less well positioned to afford it.

      • However, people are using their pension funds to buy property and this is propping up the market.

    • If I leverage my SMSF capital to buy property but pay down my personal mortgage as fast as I can, aren’t I taking on more debt but saving more at the same time?

      • In your one individual case that would be correct, but really the SMSF portion of the market is quite small. In general SMSF’s are buying work premises or future retirement homes for the beneficiaries. I have never heard of any buying 20 rental properties, although that’s not an area that I have sought to enter, so my evidence is anecdotal, but from very credible sources.

      • There are large advertising campaigns and “seminars” about how to unlock your SMSF fund and create wealth through property.

        I think this area of the market maybe increasing a lot faster than many realise.

        Most of the property that is selling in Darwin at the moment is going to investors and ending up in the rental property market. I believe much of the funding is coming from SMSF.

      • Not to mention those who encourage mum and dad to invest in the mezzanine debt funding of the development they’ve bought an off the plan apartment in.

        Quite smart double dipping of the budding Warren Buffets and their SMSFs.

        The line they’re sold is that the return they earn on the mezzanine debt investment should be viewed as a discount to the retail price of the apartment they’ve purchased.

        There is definitely a growing mountain of SMSF money going into property at all points of the risk curve.

      • Gerard – I don’t think Warren Buffett would be stupid enough to invest in such things. Generally he investments in businesses with little to no debt.

  8. Stephen Morris

    Two points.

    First, the apparent lack of government borrowing around the year 2000 should be adjusted to account for once-off asset sales such as spectrum, monopoly utilities (such as airports), and other public assets.

    Secondly, the willingness of households to borrow at that time must be attributable at least in part to the effect of the Keating superannuation system.

    Hitherto, Australians had saved by borrowing to buy a house and then paying down the mortgage. At the end of a lifecycle, they were left with an asset and little or no debt.

    With the advent of the superannuation-confidence-trick householders were told, in effect: “You don’t need to save like this any more because your superannuation will magically keep you prosperous in your old age”.

    The banks were more than happy to fill the gap with home-equity loans, enabling householders to re-draw the savings they had put away through mortgage repayments.

    As it becomes ever more apparent – especially for younger people – that they will never actually see much of their superannuation “savings”, we might expect them to move back to traditional forms of household savings.

    If they can afford it!

  9. wasabinatorMEMBER

    Income growth? Since I returned to Aus from overseas (where my income was constantly growing), my income has done nothing but shrink. I work in finance and most of the work is being off-shored, so even if you can find something, the pay seems to be getting lower and lower. Right now I am earning on par with what I was earning around 2004 before I left for OS.

    • And that is very much the reality for lots of workers…but that is better than workers in manufacturing who lost their jobs from around 2004 as the stupid west freely gave everything to Asia…I know I am an engineer and for the past 4 years can not find one job in Sydney to suit my skills…it’s all gone…and then I tried to start up a small design business ..forget about that I would have been better to have sat on my arse and played the pokies
      Good luck Wasabinator hope your job stays here in Aus.

  10. This might seem a bit nit-picky but I believe it is core to discussion. This is complex and I don’t really have the time but….

    Two points

    This paper, and just about every other economic discussion, talks about ‘the fall in interest rates’ There is no such thing. We are pretending that this ‘fall in interest rates’ is some sort of self-stabilising process. We tell ourselves what clever economists we all are that this is so. What we have, as per pfh’s post, is interest rates forced down by a variety of trickery. It is called, and should always be called, financial repression.

    The terminology is important in understanding the real processes occurring in the economy. In the Western world we have a situation where we have over-indulged ourselves for so long that we are drowning in debt. As such interest rates logically should be through the roof as everyone struggles to get enough money to pay the interest on that mountain of debt. Our solution to sustain that debt has two sides. The first is to force rates lower so those with the debt can afford to pay the interest. We manage some of this by stealing from those who save. In Aus we also manage it by selling assets, such as mines factories, farmland and RE to foreign interests. There is no natural stabilising process going on here just more debt.

    Second point
    The other method of heading off the debt crisis was to force the debt on to governments so the real price of the debt did not have to be paid. If it is government debt we can pretend it doesn’t exist. Note that for the sake of this discussion the central bank is simply an arm of government. So we’ve had governments everywhere covering the debts of the banks in a variety of ways.

    In Australia we had the Government guaranteeing the Banks. Latterly, and central to the above discussion, we have had increasing government debt being injected into the economy effectively allowing debtors to repay debt. If governemtns were not running deficits either spending is reduced OR taxes are raised. I’d suggest that, in the case of the Western world generally, this would effectively wipe out any monies that are otherwise available to be saved. We’d all be on our ‘uppers’.

    Increasing Govt debt, particularly if financed offshore as ours is, is OUR debt. The government is not some ‘other’ being that can provide us with costless largesse at will…particularly OUR will. The government is us and its liabilities are ours and imperil our ability to provide adequately for ourselves and our children.

    Unless I’ve missed something the discussion above, despite the first graph, entirely misses this point. The so-called ‘saving’ has been made possible, in part, by government debt. It’s still debt. It’s just not debt to the local bank! There has been no real saving by us as a nation. In fact we have just gone deeper and deeper into this debt mire.

    Lastly the paper ignores the cascading effects that occur in economics…or if you prefer ‘feed-back loops’ We’ve forced interest rates lower thereby increasing asset values, in particular, the value of houses. Then we conclude everything is OK because our debt is now less as a percentage of our assets. This is clearly just an illusion or baloney or BS or whatever label you want to give it.

    Real saving will occur when we raise interest rates, spend less, run a Current Account Surplus and start reducing our Foreign liabilities and buying back some of the assets we have previously sold off to fund our wastrel lifestyle.

    P.S. I’ve done my best in a short time. I apologise if it is not clear!

    • Crocodile Chuck

      “Real saving will occur when we raise interest rates, spend less, run a Current Account Surplus and start reducing our Foreign liabilities and buying back some of the assets we have previously sold off to fund our wastrel lifestyle.”

      Australia has never run a current account surplus.

      • CC, “Australia has never run a current account surplus” is probably true in the context of your and my lifetime but I heard that Aus was not always so.
        Found the following chart that proves Aus was not always under the pump of external debt (chart from 1960-2013):
        Australia started a decline into Current Account Deficits in about 1974, wasn’t that when Whitlam was trying to get loans for Aus to manage its own assets/exports?
        Question: who exactly sold us out?

      • Jon 1974 was the year Whitlam slashed our tarrifs and Fraser and Hawke followed suit. Would that be something to do with it? Or would saying yes be blaspheming against free trade orthodoxy and the oh so level playing field.

      • Just for clarity the modern series of CAD’s started in 1959. We have continuous CAD’s ever since except for a small CAS in 1971. So it’s pretty much 53 years straight and one small surplus.

      • Australia ran a significant current account surplus during the period 1946-1958, mainly because of the need to repay the (very substantial) government debt incurred during World War II.

  11. This is biggest problem!

    I am 72 and my partner is 68. We are both retired. We maintain two homes that we own outright – one in the city valued at $1 million and one in the country worth $400,000. We have $400,000 in savings to provide income, but it’s insufficient. Can you suggest a way that we can keep a city home (preferably the one we own) and increase our annual income to $60,000?

    A Depending on what other assets you have, you may be eligible for a part age pension. But even if you were and you sold the country home for $400,000, you would still not be able to generate a safe income of $60,000 a year. Your only options seem to be to find some casual employment or draw down on your capital. As your capital reduces, your age pension will increase. This may reduce the rate of draw down. Under this strategy, $800,000 would probably last until you’re well past the age of 90, but between now and then, it’s likely that you will need to downsize your home. This would release further capital. As I see it, the problem is not yours, it is your beneficiaries’.

    1.4 Million tied up in property, 400K in cash, part-time job.. and the advice was “..apply for part-pension..”!!.. Really?.. this is not middle-class welfare.. this is upper-class welfare!

    I felt like punching in the face at this line
    “..As I see it, the problem is not yours, it is your beneficiaries’…”

    • And what about the other blokes question,eh?

      Q I am 51, a single male living in a house valued at $750,000 with a mortgage of $210,000. I have an investment property valued at $570,000 with an interest-only mortgage of $600,000, which earns net rent of $400 a week. I have $360,000 in superannuation and earn $150,000 a year before tax. Am I on the right track to financial security heading into retirement? If my employment situation changes, I am concerned about my level of debt.

      There are a lot of dumb bastards earning big money here in this fools paradise..I’m referring to his IP set up..

      Read more:

      • You cannot stop stupid ppl from doing stupid things.. but the “retirees” I showcased in my case should NOT be leeching of govt-pension. Looking at the way the person says “… suggest a way that we can keep a city home…” I am sure they are the types that cringe/whinge/look-down-upon dole-bludgers and “boat-people” leeching off tax-payers monies!

        and surely they have neither the grey-matter capacity nor the resources to consult an accountant/advisor hence they are asking questions via MSM!

      • It didn’t specify, but it’s probably not to dangerous to speculate that the description could be expanded to “and earn $150,000 a year before tax in a mining-related construction job that I should reasonably expect to lose in the next 2-3 years.”

  12. Are the household debt figures net or gross ? If gross, is it possible that the household debt is not coming down as more people are leaving money in offset or savings accounts just in case ?

    • I believe the figures are gross – as far as I am aware, the stats here have no way of netting out mortgage offset accounts. I have always thought that in recent years this results in us showing inflated debt/GDP levels over what the reality actually is due to the wide use of offset accounts and so on.

      • It would be very interesting to find out but I tend to think that if it was a significant factor our beloved RBA would have quickly trundled out that explanation to sooth concerns about high levels of household debt.

        In practice their approach to those concerns has been a combination of:

        * Arguing that the high levels of debt are secured by assets

        * The assets are not really over priced – by reference to ‘selected’ overseas data and by reference to ‘selected’ measure of income.

        * claiming we have reached some stable plateau which is the natural result of financial liberalisation (the merits of which are assumed without question) and a great almost permanent moderation in inflation.

        If it was something as simple as “hey on a net basis we have little household debt anyway” – they would display that in flashing lights on their website.

      • Pfh – I don’t think it would cancel out all the debt 🙂 But it might shave 5-10% off the total/GDP ratio?

        I think the only reason the RBA hasn’t cited this is that the offset account cash could be spent at any time, so when looking at aggregrates its probably better to ignore this factor.

        PS: And on a total “net” basis, household aggregrate debt level is about “zero” anyway – $1.4T in superannuation remember? Cancels out the household debt total almost exactly.

      • I’m willing to be educated here. That 1.4T in Super savings is just sitting ready to be moved against household debt?
        Or has much of it been spent on consumption items like shopping centres, housing, inflating bank shares?
        As per Rumples post a few months ago is this Super really ‘saving’ at all? Or in a cascading failure would it all just disappear?

        Answering myself to some extent at least we have borrowed from our own Super for these things rather than borrowing from foreign savers.
        As I’ve remarked before these things run widdersins in my brain!

      • Gonderb,

        Shhhhhh – don’t mention the superannuation savings. You will give people ideas. 🙂

        It is truly frightening if that mountain of superfunds roughly matches what we owe on our houses.

        It would be nice if instead we owed little on our houses and had a super mountain invested in productive income generating opportunities – rather than speculating on asset bubbles cooked up by central bankers (I suppose that depends on what allocation settings people have selected for their funds).

  13. i agree we have hit debt limits based on mortgage rates of 6-7%. But there is more room for debt growth based on current 5% rates and even more if it goes lower.

    Also, once rates can go no lower the govt can do a UK and start putting taxpayers money towards join equity schemes – will increase govt debt, if not private.

    … not sayng it will happen, but we live in a society dominated by financialisation. Its designed to redistribute wealth from those trying to get established to rent seekers. Slavery lasted millenia, why can’t debt slavery? And if the slaves have been exhausted, go get some more from overseas.

    • squirell to dothat we’ll need continuous funding in the external account. I guess it will go on until it can’t.

      There’s one hell of a difference between a good policy and one we ‘can get away with for a few more years’

      • flawse,

        I guess the point I am making is that unjust policies can be sustainable. Govt sponsored asset inflation is basically theft, and the largest form we have ever witnessed. Once aussies can no longer pay more, other means will be employed and there are plenty of overseas people with lots of money prepared to move here to keep the prices rising.