The debate over where house prices are heading has been heating up, with economists such as Gerard Minack and Steve Keen broadcasting gloom over the sector.
The debate over where house prices are heading has been heating up, with economists such as Gerard Minack and Steve Keen broadcasting gloom over the sector.
Not me. I have maintained my belief, even before the Reserve Bank’s rate cut or the Rudd Government’s actions to bolster first-home owner grants, that the underpinnings for the market were solid.
Broad economic factors do influence the residential property market, but the fundamental drivers of prices are often left out of these discussions. Among the most important are the supply of new dwellings and the patterns of demand from first-home buyers. Astute property investors know this pattern is one they need to understand and watch.
The key questions are: How does the supply of new homes contribute to price formation in the property market, and will it be affected by the recent increase in the first-home owner grant?
In my experience, supply relative to demand is the core market driver, for without a healthy new dwelling construction first-home buyers and investors are pushed into established housing, competing for and driving prices up from a base of low and finite supply.
An obvious driver of new construction rates is the availability of land for the development of new estates or for sale to developers as “speculative” blocks. With state governments seeking to restrict urban sprawl and local governments enacting restrictive planning policies for new estates and high-rise development, the price and cost of new homes in the suburbs of our cities has soared. This has been a boon for property investors, with the established sector delivering record growth over the past 10 to 12 years.
This more restrictive policy to developing new estates is a primary reason Australia’s property market rose so robustly and didn’t fall like those overseas. As research group Demographia noted in its 2008 International Housing Survey: “Prescriptive planning markets (urban consolidation cities in the US) have seen their prices escalate $160,000 compared to responsive markets (cities without an urban consolidation policy).”
The other reason for high prices is the shift of infrastructure costs from government to developers and on to home buyers in the past 10 years. As Chris Lamont, chief executive, policy, at the Housing Industry Association points out, the supply responsiveness is significantly decreased when “the cost of developing a new block on Sydney’s outer fringe goes from $30,000 in 1997 to $110,000 in 2008. That’s a significant hurdle rate for developers to invest for, and just ends up restricting new house starts.”
With growing underlying demand from Australia’s increasing population (driven by rising net immigration, and higher birth rates) exceeding the number of new dwellings developers are willing to build, the expected shortfall in new dwellings will top 40,000 this year, adding to an accumulated deficit over the last five years.
And after a good run of growth following the first-home owner grants boom in 2001, the construction industry has seen business slow this year, with the number of dwellings approved falling 7.6% in the year to August 2008, according to the ABS.
The result of this assortment of housing policies is that people who, under other circumstances, would have been buying new homes are instead competing to buy (or rent) established dwellings.
This latent demand acts as a floor under property prices, forming a new pattern of stagnant or soft growth for six or 12 months followed by one to three years of rapid price escalation. Given this evolving pattern, it’s interesting to add the housing choices of Generation-Y into the equation, influenced by prevailing prices and the extension of the first-home owner grant.
If we look back at first-home behaviour when the grant was first introduced, I think the “buy or miss out” sentiment will reappear. The anecdotal evidence is already appearing. A friend told me last week that all of her three adult children called her to ask to borrow $20,000 to supplement their home deposits, promising to pay it back when the increased grant is paid. I very much doubt my friend’s experience this week would have been unique or anomalous.
While truly bad economic news, as distinct from financial market news, could halt price growth, tales of 40% falls to come are far from the mark. The view from the HIA is similar. Lamont says: “I don’t see the doomsday scenario happening. People are reluctant to sell a residential home at a loss, and investors are seeing low vacancy rates and increasing rental returns.”
For investors ready, willing and financed, the doubling and tripling of the first-home owner grant’s effect on the market is a golden opportunity, but it comes with a caveat. While the news is good for short-term price expectations, the limited supply of newly constructed homes, increasing pent-up demand and evolving home buyer patterns are likely to set the stage for recurring episodes of sudden prices rises interrupted by pauses.
While the nature of the pattern may change, the overall upward trajectory will play out fairly consistently over the long term. Bad employment news or other economic shocks will subdue prices, but any subsequent recoveries are likely to be as sharp.
I expect prices for established middle-priced apartments and homes in the inner and middle metropolitan ring to see a direct impact from the first-home owner grant.
This story first appeared in Eureka Report
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