The OECD’s survey into the Australian economy that puts housing squarely in the focus is the sort of thing that is likely to create a few conniptions. It isn’t helped when a separate post on the topic is titled “Australia’s cooling housing market; is the economy at risk?” Add in that on the same day the report is released, the latest housing finance figures show a continuing slowing. It’s enough to make you start investing in canned goods and candles. But for now at least the desired “soft landing” appears likely, and certainly the Reserve Bank will not be looking to increase interest rates.
The latest OECD report on Australia contains a few doomsday scenarios. For example, it notes that were there to be a “dramatic house-price correction” (ie downturn) it could “cut household consumption, prompt collapse in the construction sector, increase mortgage defaults and freeze bank lending to business”.
But you know, apart from that …
It’s all a bit worrying because as has been quite clear for some time now, the housing market is certainly off the boil after a surge in prices especially in Sydney and Melbourne led to concerns of a bubble.
The OECD notes that over the past five years house prices have increased by around 35% in real terms (ie above inflation), and this led to a risk relating to housing market and related debt.
It notes that “though house prices have eased recently, they remain high in level terms (they have more than doubled in Sydney and Melbourne since 2005). Also, the ratio of house prices to incomes has increased substantially in recent years and the ratio of mortgage debt to household income remains elevated.”
They’re not kidding about debt.
In June we reached another record high level of housing (and total) debt relative to household incomes – hitting 147% for total housing debt and 109% for owner-occupier debt:
Over the past three years the increase in owner-occupier housing debt has only been marginally below the massive explosion in the early 2000s off the back of the Howard government’s changes to capital gains tax that made negative gearing rather lucrative.
It’s a situation that leaves many vulnerable should a plunge in house prices occur. And for those worried about such a thing, the latest housing finance figures do little to assuage those fears.
On the surface things maybe are not so bad – there was a quite strong 3.0% seasonally adjusted increase in total housing finance in October (excluding re-financing), the best result for more than two years:
But it looks more like a statistical flub, coming after two very poor months. In trend terms, October marked the 15th straight month of a falling housing finance commitments, and the 13th straight downturn for owner-occupier finance – the equal longest downturn since 1991:
The 8.5% annual fall in the value of owner-occupier housing finance commitments is the worst result since January 2011, while the 18% fall in investor financing compared with October last year shows the picture is getting no better on that side of the market:
As I have noted in the past, the growth of housing finance has a good correlation with house price growth in six months’ time. This suggests we have a while yet to go before our housing market bottoms out.
Despite this, the cost of a mortgage remains high – in fact in every state and territory except Northern Territory, the average cost of the housing loan in October was more than it was in October 2017, although the past six months do appear to have seen a fall in loan sizes:
But will this end in doom and gloom or will it all sort itself out?
The OECD for its part seems relatively confident things will end all right, but it does even admit that this would be unusual.
It noted that “the evidence of housing-market cooling is welcome following a period of rapid price growth”.
It concurred with the IMF that Australia’s house prices towards the end of 2017 were overvalued by “by between 5 and 15%”, which it notes “is relatively modest and provides grounds for expecting a soft landing”, something which it says has been borne out by the current pace of the drop in house prices.
While it does suggest then that a “soft landing” is likely, it notes the risks, especially as it rather worryingly states, “past OECD work has found soft landings are rare”.
So what to do?
The OECD recommends “in the absence of a downturn”, interest rates should be gradually increased “as inflation edges up and wage growth gains momentum”.
Yet when that is going to happen seem rather off in the distance.
Whereas five months ago the market was pricing in a rate increase by October next year, now it sees no signs of an increase in the cash rate in the next 18 months:
And neither are there any signs of inflation really picking up.
If we use the rough guide of comparing the difference between the yield of the Australian government 10-year bonds and government inflation indexed bonds, we see there has actually been a recent easing in inflation expectations:
One issue is that to turn around the current slump in housing finance, interest rates will likely need to fall.
If we look at the three most recent falls in housing finance (including the current one), we see that the current drop is not so severe as occurred during the GFC or in the period after it from 2009 onwards, but it shows no signs of improving.
And the general rule is that the climb back to previous levels takes as long as did the fall:
The problem however is that the GFC fall was stopped by the stimulus measures for first-home buyers, and the fall in 2009-11 was stopped by the long and quite sharp cuts in interest rates that saw the cash rate fall from 4.75% in October 2011 to 2.5% in August 2013.
It is unlikely a rate rise will occur while housing finance continues to fall, and with no real signs of inflation or wages growth getting back to levels that the Reserve Bank would even consider to be neutral, let alone needing to be slowed, it is unlikely the RBA will do anything that would increase the likelihood of a hard landing.
As such the era of low-interest rates looks set to continue for some years yet, and so too does the hope for a soft landing.
• Greg Jericho is a Guardian Australia columnist