Today’s Financial Review reports, ‘Loans for the purchase of new homes have virtually collapsed as first home buyers desert the market under pressure from higher interest rates.’
‘Finance for new dwellings plummeted 12 per cent in February to be down almost 36 per cent from three months earlier’
We’re not going to put the boot into housing today…that’s the role of our mate Kris Sayce over at Money Morning. He’s currently stomping all over the flagging housing body and doing a pretty good job.
No, we want to talk about the damage housing is doing to the Australian economy…the detrimental effect of constant government interference and how this obsession with housing and house prices will lower all of our living standards.
It should be pretty clear to anyone that first-home buyers are deserting the market because a) housing is too expensive and b) the government’s ‘first-home owners’ boost’ (or more aptly, the ‘recent home-sellers benefit’) is no longer. And therefore, b has reinforced a.
Now, saying that housing to ‘too expensive’ is a pretty general statement open to conjecture. Fair enough.
If you want some proof though, have a read of Steve Keen’s latest article on the housing market. He shows that the average first homeowners mortgage has increased from $72,000 in 1992 to $274,000 in 2011.
That’s a hefty increase. Housing bulls would counter that interest rates are much lower now and incomes much higher, so the structural change in house prices is sustainable. That’s the line peddled by most mainstream economists who work for the banks that have a vested interest in keeping house prices high.
Keen shoots that argument down by showing average loan repayments have increased by 2.8 times since 1992, while the average wage has slightly less than doubled.
Says Keen – ‘While wages have risen, the 2.8 times increase in loan repayments means that mortgage payments on an average first home loan have gone from taking 40 percent of after-tax income of the average worker in the 1990s to 64 percent now.’
That sounds like a reasonable definition of ‘too expensive for us’.
But how is this impacting the broader economy?
Well, firstly, if more and more of your income goes towards servicing and paying off a home loan then you have less income to save or spend elsewhere. Housing is an unproductive investment.
Sure, it provides shelter and security so you can go about your business doing other productive things. But beyond that, it provides no lasting benefits for society.
It shouldn’t come as a surprise then to see Australia’s productivity growth slipping badly. The World Trade Organisation recently released a report that, among other things, raised concerns about Australia’s flagging productivity growth. The report stated that productivity growth had fallen from its long-term average of 1.3 per cent to minus 0.2 per cent.
Productivity is the holy grail of economics. It’s the main factor that leads to a sustainable increase in living standards. We would suggest that over the past decade or two, living standards have in part been boosted by the plentiful availability of credit.
Productivity, as the name suggests, refers to the production of goods or services for a given amount of labour and capital. Growing productivity means a nation produces more for the same cost. It’s like increasing a country’s profit margin.
In recent years, Australia’s profit margins have been squeezed. And our contention is that much of this squeeze is due to overinvestment in housing, which is unproductive.
Consider our foreign-debt levels, which are around $650 billion (December 2010). This is net foreign debt, which means we require foreigners to supply us with debt finance to help fund our living standards.
No real drama’s there. Debt is not a bad thing, as long as it’s employed productively.
Uh – oh.
We’re not sure what the percentage is, but we’d guess that a decent proportion of the foreign debt is actually borrowed by banks to fund home loans. Last year we analysed the balance sheets of the big four banks and found that home loans represented around 60 per cent (on average) of total Australian-based lending.
According to RBA data, business lending growth has been negative since July 2009 while housing lending has continued to grow in the region of 7-9 per cent. The conclusion is that over the past few years, banks have funnelled even more capital into housing at the expense of small and medium sized businesses.
No wonder Australia’s productivity is in all sorts.
Most of you will realise this is the direct result of government intervention. In a blatant and inefficient attempt to prop up the housing market after the credit crisis hit in 2008, the government incentivised housing lending by bribing first-home buyers into the market.
Banks responded by directing their capital to mortgage lending, at the expense of business lending. (Basel rules dictate that banks can set aside less regulatory capital to home loans than they need to do for business lending. Apparently home loans are less risky…)
But now the artificial support has gone, demand for new homes has plummeted.
The same AFR article we quoted above also states that 45,393 mortgages were issued in February, with a whopping 86 per cent written to buy existing homes.
Hang on – we thought there was a housing shortage? Yet the market is not demanding new housing. What is going on then?
We don’t know. But all we ever hear to justify high house prices is that there is a chronic shortage of housing. Yet 86 per cent of people who took out a mortgage last month bought an existing home.
Perhaps this reflects the ponzi nature of Australia’s housing market.
People are just buying and selling existing homes hoping prices keep on rising. Well that’s fine and dandy while banks are supplying increasing credit but that game is over. Housing credit growth has dropped from a peak of 22 per cent in March 2004 to just 7 per cent in February 2011. The housing credit boom is over, which is why house prices are going nowhere.
If there is a housing shortage, then the government should simply restrict negative gearing to newly constructed homes, rather than give everyone a giant tax break for punting on higher prices.
But even that probably wouldn’t work. Negative gearing is part of the problem because it promotes capital gain over income.
For centuries property was predominantly an income-producing asset, with a bit of capital gain thrown in for good measure. In recent decades, Australians have seen property as a capital gain asset with a bit of income thrown in.
With or without negative gearing and with or without more market-distorting government programs, we think Australian residential property is beginning to revert to its historical characteristics.
It might not seem like it, but over the longer term, that will be good for economic growth and, ultimately, our standard of living.
For Markets and Money Australia