Economists and real estate professionals are beginning to question the sustainability of the relentless increases in house prices in Australia.
Yarra Capital’s head of macroeconomic strategy, Tim Toohey, has just published a new article, ‘The impending housing excess‘which raises questions about the current construction boom.
Overabundance of housing
Toohey’s team modeling estimates that by the end of 2023 Australia will have 150,000 homes above demographic demand. Such an excess would be the largest since 2008. This forecast incorporates a 30% drop in housing authorizations as a baseline scenario by the end of 2022 and is therefore cautious.
One variable of the case presented by Toohey includes a scenario analysis for a change in net migration rates. If net migration does not rebound to 200,000 by 2023, the excess housing supply will drop from 150,000 to 200,000.
The Toohey’s article says that a significant oversupply of housing does not necessarily mean that house prices are likely to fall substantially. 2006 is an example where the expected fall did not happen, but the RBA was able to cushion external pressures because monetary policy was at the end of the spectrum.
The RBA has very accommodating monetary policy parameters this time around, and immigration is the main oscillating factor to absorb supply. Add to that a fiscal stance heavily reliant on Chinese largesse, and the likelihood of a soft landing seems less than a tie bet.
Avoid a bust
Toohey said: “The only way Australia can avoid a significant housing excess by 2023 is for approvals to drop much more than expected.”
He therefore arrives at two conclusions:
First, banks should consider building provisions against downside price risk rather than releasing provisions as has been the case for the past 12 months. The Bank’s average loan-to-value (LVR) ratios and bad debt are low in historical comparison, providing sufficient protection against any decline in house prices. Nonetheless, the boom in new borrowers for single-family homes on the outskirts of major cities has yet to build up the equity in their homes and is more vulnerable to any decline in house prices.
Second, the only way to avoid an oversupply of housing is to stop building that much. The RBA continues to be bullish and currently forecasts housing investment to decline by just 0.5% in 2022 before rising again.
COVID-19 closures remain a wildcard. Extending lockdowns, especially in New South Wales, are a huge drag on the economy and must eventually test the patience and bank managers of small business owners. Unemployment remains low, but staff underutilization rates remain above long-term averages.
Louis Christopher, managing director of SQM Research, points out that asking prices for real estate in Sydney have fallen for several consecutive weeks. He also says there are signs that banks’ lending criteria are stricter than last year, when they were happy to accept JobKeeper payments as a form of income.
“I think if Sydney were to remain locked out until December it would be bad news for the local economy and it would trickle down to the housing market,” Christopher said.
Economic signals flash orange
Other key warning signs can be found in the recently released Reserve Bank of Australia Card Pack for the period ending July 29, 2021.
The relationship between house prices and household debt and disposable income is particularly interesting. The graph shows that we never reached these levels in both categories. They indicate a decline in overall affordability for those, typically under 35, with little equity to support purchases.
Total home loan commitments have also risen sharply, possibly due to the “fear of missing out” on historically low financing rates.
The market continues to play chicken with the RBA, essentially saying that while the Board remains concerned about the fiscal side of the economy, it will hesitate to rule over bond purchases, let alone the rate hike. ‘reference interest. For investors, the game is the same; don’t be the last to leave the ship when there is a leak.