The fuel driving the Syd/Melb housing bubbles

By Leith van Onselen

Among all of the factors that drive house price growth, arguably the most important is the flow of housing finance commitments, which has shown an incredibly strong correlation over the past several decades (see next chart).

ScreenHunter_10519 Nov. 24 15.24

On Friday, the ABS released its State Accounts for the year ended June 2015, which has allowed me to calculate the value of finance commitments (excluding refinancings) against gross state product (GSP). This indicator provides a broad gauge of finance intensity across Australia’s various jurisdictions.

The below chart provides a summary of Australia’s states against the national average:

ScreenHunter_10520 Nov. 24 15.37

As shown above, the ratio of national finance commitments to GDP hit 18.8% in the year to June 2015, completing three years of strong growth, to be only marginally below the 19.8% ratio hit in the year to June 2004.

In New South Wales, the ratio was 22.6%, completing three years of very strong growth, to be only marginally below the June 2004 peak of 23.5% (see next chart).

ScreenHunter_10521 Nov. 24 15.37

In Victoria, the ratio hit a record high 21.9% in the year to June 2015 after jumping over the past three years (see next chart).

ScreenHunter_10522 Nov. 24 15.38

While finance intensity in New South Wales and Victoria has exploded over the past three years, driving prices into the stratosphere, finance intensity in the other major capitals remains well below their prior peaks, which has also been reflected in their weak house price growth.

In Queensland, the ratio of finance commitments to GSP was 16.2% in the year to June 2015, well below the 23.1% reached in the year to June 2004 (see next chart).

ScreenHunter_10523 Nov. 24 15.38

In Western Australia, the ratio of finance commitments to GSP was 13.8% in the year to June 2015, well below the 23.1% reached in the year to June 2006 (see next chart).

ScreenHunter_10524 Nov. 24 15.38

In South Australia, the ratio of finance commitments to GSP was 13.6% in the year to June 2015, well below the 17.2% reached in the year to June 2008 (see next chart).

ScreenHunter_10525 Nov. 24 15.38

It’s not surprising that Sydney and Melbourne are the epicentres of the Australian housing bubble given the extreme finance intensity in both markets. Given that the ratio of finance commitments to GSP are at or near historical highs in both markets, along with record high valuations against incomes and rents, both Sydney and Melbourne are primed for a painful correction as soon as the domestic and foreign specufestor interest wanes.

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