The Great Australian Dream

I’ve been meaning for ages to write a post about house prices, but haven’t come up with an analysis that satisfies me. Still, here goes.

On most standard measures. Australian house prices have been far above their long-run equilibrium value for at least five years, and the gap seems to be widening. But the length of the strength of the boom has convinced most people that high prices are here to stay, at least until they are replaced by even higher prices.

If this belief were suddenly reversed, and the prices returned to say, 2000 levels (even adjusted for changes in prices and incomes since then) there would be an awful lot of financial distress, with hundreds of thousands of households having negative equity.

This is already happening in the US and to some extent the UK. Compared to the US we have nothing like the volume of bogus subprime loans. On the other hand, price increases have been even greater, so there’s more room to fall.

If there is a really dire economic scenario facing the Rudd government over the next few years, this is it. By contrast, a slowdown in the export boom and a gradual deflation of the housing bubble would be a much better outcome.

42 thoughts on “The Great Australian Dream

  1. If there is a really dire economic scenario facing the Rudd government over the next few years, this is it.

    The really dire economic scenario would be $200/barrel oil and $3/L at the bowser, but I digress.

    I can’t see a scenario where house prices fall to 2000 levels without the resources boom busting, and there’s very little sign of that happening. China is an increasingly self-sustaining entity, and U.S. recession or not, demand for our resources will continue to grow.

  2. This is the elephant in the room whenever there’s a discussion about “making houses more affordable”. Those who have bought in the last five years will be screwed.

    Genie is out of bottle.

  3. as a longtime wannabe homeowner, it seems to me that the driver of higher prices is nothing more sophisticated than a combination of:
    1. tight supply of “nice”[*] property;
    2. people paying as much as they can afford to pay to get said “nice” property;
    3. people being able to afford to pay more.

    all 3 arms of this combination seem pretty secure to me. maybe a US recession, or local anti-inflation measures would impact on what people could afford to pay, but on available evidence these factors seem unlikely to make a huge difference.

    * the bubble in property that is not “nice” (for nice read: something a snob would like) is of course already being gradually deflated.

  4. Strap yourselves in people. From here on oil prices will double about every 4 years. Food prices ditto. House prices? I’m not sure. Probably maintain their value at least because there won’t be enough resources and fuel to build much new stock.

  5. The increase in house prices is sustained by the belief that prices will continue to increase.

    Rational investors are only prepared to invest in residential property because they believe there will be a capital gain. The rental income does not even cover the interest on the funds used to acquire the property.

    First home buyers are prepared to borrow as much as they can because they believe that escalating house prices will place a house beyond their reach in the future.

    Lenders are prepared to provide mortgage finance because they believe rising house prices help to protect them in the event that the borrower cannot meet the mortgage repayments.

    The belief system has ensured that house prices increase, so far. It ensures that buyers buy and lenders lend. However what would happen if the belief system changed – house prices are too high to be sustained? Prices would have to fall substantially before investors would be prepared to buy just for the rental income return. New home buyers would be inclined to rent while they wait for house prices to fall. Lenders would be cautious about financing a mortgages unless the purchaser has substantial equity.in the property.

    What will change the belief system? Over the last ten years household interest payments as a proportion of household income has grown from 8% to 16%. This kind of growth is not sustainable.

    It’s kind of scary – economic prosperity depends on an unstainable belief.

    Cicero

  6. NEW house prices in Australia are not based on a “belief system” but on fundamentals of supply and demand. Population is still growing strongly, there is a severe rental shortage, which is encouraging people to become home-owners, and construction costs are rising sharply. I don’t know why you think prices are far above “equilibrium”, John. Perhaps you could help us understand.

    In the more speculative investment market for OLD homes and apartments, there may well be some fall in demand because of expectation effects and some credit tightening. But this effect should be small. After all, rental yields are good at present even without the prospect of capital gains. (True, dividend yields on shares have increased too and may divert some investment money from housing but that’s not sure). How a fall in investment demand affects new home prices is not clear.

    A collapse in commodity prices and substantial rises in unemployment could set the cat amongst the pigeons – as could a massive loss of trust in asset markets generally. But even pessimists like me see only a modest fall in export prices and there is enough real investment in the pipeline to keep the economy growing for some time – albeit more slowly and with some increase in unemployment to 5% or so.

    That’s the most probable scenario. But, having seen the irrational behavior of share and credit markets (see curent Club Troppo discussion), who knows?

  7. Does Mr Argy contradict himself within one paragraph? Or is that just the interpretation I am putting on it? I quote.

    1. “NEW house prices in Australia are not based on a “belief systemâ€? but on fundamentals of supply and demand.”

    2. “as could a massive loss of trust in asset markets generally”

    3. “But, having seen the irrational behavior of share and credit markets…”

    Fundamentals are posited as the base of prices but then our old friends “trust” and “irrational behaviour” are allowed back in the door just in case the “fundamentals” don’t hold up.

    Is the following the case with market pundits? When the market behaves as they expect/want it is following fundamentals. When the market disappoints such expectations it is due to a lack of trust and irrational behaviour on the part of others.

    Since nobody can accurately predict all market movements yet many are trying to do so that means many have beliefs (founded on partial knowledge) about where the markets may go. Acting on those beliefs they (in concert) push prices around. Surely fundamentals and beliefs are always intertwined in the process of determining market prices?

  8. I must post about new and old houses too. Many new houses have a mediocre foundation preparation and poorly laid slab, a pine frame, brick veneer poorly tied on and tiles (brittle and poorly tied on also).

    Contrasted to that, many old housing commission houses for example from circa 1950 were hardwood almostthroughout (hardwood frames, hardwood weatherboards and sometimes hardwood floors. I can’t wax lyrical about the roof though which was often corrugated fibro. Nevertheless once these house had corrugated iron put on top and some repainting they were there for 58 years and counting (until sadly ripped down).

    I’m not sure a lot of current housing stock will last that long. Dwellings are not made to last as long as they were in other eras yet prices still skyrocket. Is decline in durability another aspect of inflation?

  9. Ikonoclast,
    Should we go back to using old growth timber, lots of concrete and natural stone to put our houses together?
    Ah, they don’t build ’em like they used to do they? It was much better in the old days.
    Well – they were tiny. Typically two bedrooms a sleepout and an exterior toilet that the nightcart used to empty, but they were better, weren’t they?

  10. I don’t know why you think prices are far above “equilibrium�, John. Perhaps you could help us understand.

    he can probably speak for himself but he’s not around, so: john thinks house prices are far above “their long-run equilibrium value” because that’s what is empirically the case.

    in this context “equilibrium” just means the point in a market where demand equals supply (i.e., the price). and the price of houses currently is relatively expensive, compared to what people paid in the past.

  11. Contrasted to that, many old housing commission houses for example from circa 1950 were hardwood almostthroughout (hardwood frames, hardwood weatherboards and sometimes hardwood floors. I can’t wax lyrical about the roof though which was often corrugated fibro. Nevertheless once these house had corrugated iron put on top and some repainting they were there for 58 years and counting (until sadly ripped down).

    i thought in the 50s (in NSW at least) HC houses typically had walls clad externally with fibro, not timber weatherboard. the most important design feature of HC homes was that they could be erected as quickly and costlessly as possible. timber weatherboard was more expensive than flat fibro, and i doubt the NSW government would’ve sprung for the extra cost if they didn’t have to.

    as against a brick home, i’m not sure why you think these slapdash fibro cottages were “built to last.”

  12. I’m renting rather than owning because I wasn’t in a position to buy when it was affordable, and now there’s no way to catch up. I don’t want a snob’s house, I just want somewhere decently close to public transport, and that is designed so that it won’t take a lot to heat or cool. These are both based on economic necessity (and caring for the environment). I wouldn’t call that snobbishness. Newer places are in the middle of bleedin’ nowhere with no facilities, no transport and aren’t designed to not absolutely need aircon (eaves? trees? ha!).

    I personally don’t think things are going to drop too much over the next couple of years. Wish I’d been born 5-10 years earlier.

  13. The cost of housing has very little to do with the cost of building houses. The appreciation is almost entirely in the land value.
    This is certainly a matter of supply and demand – or expected supply and demand. There is not much that can be done about demand, other than limiting immigration, but a lot can be done about supply.
    Zoning, planning restrictions and policies on what can be built where all limit supply of housing and therefore have widespread support among house-owners.
    In Sydney, some of the policies of local government resemble Howard’s “we shall decide who comes here and the manner of their coming” policy.
    Existing owners in an area do not want any increased supply that will drive down the value of their property.
    Large scale local government deregulation is the single thing that would stabilize or drive down housing prices.
    CGT on houses, abolition of negative gearing would also help.
    Of course, if you are of the economic illiteracy school, Bob Ellis’s suggestions will appeal:
    http://www.abc.net.au/unleashed/stories/s2151117.htm

  14. Personally, I wasn’t that rapt with the first home owner’s grant being introduced as interest rates fell. Kind of primed and already primed pump. Also, around 2001, inner city rental in Sydney was sitting around 4-5% vacancy rate. This probably would have been a good time to change the tax treatment of investment property; unlike Keating’s failed attempt in which the tight rental market simply tightened further, the high vacancy rate and low interest rates in 2001 were a once in a generation opportunity (assuming that the government had thought it worthwhile).

    My take on this last property boom is that the last 8 or so years saw the natural response to cheaper money, with the additional factors of politics, human emotion (greed, fear, hope, etc), and tax advantages further fueling the capital growth. Like all too-good-to-be-true parties, once the beer goggles come off and the hangover starts, dawn heralds a long long day ahead.

    Where we differ somewhat from the US is our property inventory is supposedly lower. That may help reduce the extent of the backslide in prices. Higher inflation presumably also assists in maintaining at least nominal prices, disguising the extent of the decline in real prices.

  15. In my opinion, John, the housing prices are a by-product of the “hands off” development structure applied in Australia. Which, when you think about it, is a structure that is quite the opposite of how the country was initially developed at the outset (European). Market led (only) community structures have their positives, but from my observations, far more negatives.

    Australia does not suffer from a lack space or magnificent locations for communities. What it does suffer from is a lack of supporting structure to enable distibuted communities to exist. The early colonial governments promoted stategic development in order to strengthen and stabilise. This is a strategy that we have completely lost sight of. So rather than have a spread of smaller cities closer together supporting a more vital array of rural villages we have a handful of overpopulated cities with exagerated property prices. The main strength of other growing communities comes from a steady supply of retirees spending down their accumulated assets or from tourism. Each of these groups bring city property expectations that inflate local property values beyond what can be sustained by local productivity.

    It is a huge mess which is unlikely to change unless their is a biblical transformation of thinking away from centralised industry to distributed industry, and a community transformation of thinking from the fixation of compiling wealth for some fantastic retirement expectation to the pleasure of living each day fully and well. The prognosis is not good.

  16. Posts 9 and 11 certainly took me to task about my nostalgia over Housing Commission houses. Ah nostalgia, it’s not what it used to be. 😉

    The change in available resources certainly affects housing economics. Hardwood from old growth forests was a great resource. We used it as we use all natural stocks. We plundered it in a completely unsustainable manner.

    Many 1950s Housing Commission houses on the northside of Brisbane were built of hardwood weatherboard. They were a bit pokey. My father built two large extra rooms at the back which improved ours.

    Andrew Reynolds is certainly right about such houses at the outset. “Typically two bedrooms a sleepout and an exterior toilet that the nightcart used to empty, but they were better, weren’t they?”

    I don’t know if I said they were better overall. I did suggest they were durable if properly maintained. I’m not sure about the durability of some current housing stock.

    It always amazes me that the Australia of the 1950s and 1960s could achieve so much progress and so many public works. Yet today’s Australia with all its marvellous economically rational progress can’t afford public housing, can’t maintain the public hospitals, can’t offer free university education, etc. etc.

    Something stinks in contemporary Australia. I agree with my old man who used to say, “Money is like manure. Put it in big piles and it stinks. Spread it around and it helps everything grow.”

  17. Ikonoclast: Like your beloved 1950’s housing, you are simply out of date! After 50 years of dutiful service they are too expensive to renovate and update, so they are being demolished. Time- 2 days , Cost $3800. In Suburbs all over Melbourne people are paying $500-800,000 to knock down perfectly good homes to build bigger ones. Latest trend – dig underground for garage/theatre room. Suburbs are being transformed before our eyes. I don’t think sustainability or affordability is too much of an issue with these people. But where do they get the money?

  18. Fred said: “After all, rental yields are good at present even without the prospect of capital gains”.

    There is widespread perception that current rental yields are good. This is part of the current belief system that housing prices always increase. The Australian Property Monitors Rental Report indicates that the gross rental yield for properties in Melbourne and Sydney is around 5%. I am saying that a rational investor would not borrow at 9% to invest in such properties unless they expected a capital gain.

    Fred said: Population is still growing strongly, there is a severe rental shortage, which is encouraging people to become home-owners, and construction costs are rising sharply.

    Population growth increases the demand for housing and various bottlenecks restrict supply. These factors are an important part of the current belief system. They are used to explain away the rapid increase in house price and help divert attention from the real cause – that the dominant belief in the community is that house prices will always increase.

    Fred said: NEW house prices in Australia are not based on a “belief system� but on fundamentals of supply and demand.

  19. Fred said: “NEW house prices in Australia are not based on a “belief system� but on fundamentals of supply and demand.�

    I think it is self evident that people make decisions on the basis of their held beliefs. A person who believes that property prices will increase makes a different decision than he/she would if they believed property prices will go down. Now I appreciate that beliefs are deeply held and that people are reluctant to change their beliefs. However their beliefs will change if they see that the price of properties around them falling. Falling house prices will create a new belief system, in which people believe that housing prices can fall. The new belief system changes the behaviour of buyers and lenders (as outlined in post 5 above) and the market undergoes a paradigm shift.

    We can think of the market as creating a balance between supply and demand under a particular system of beliefs. If a new belief system emerges we can have a huge shift in demand and this affects prices.

    The current situation is somewhat fraught. It is the belief system (that house prices always increase) that keeps the game going. The game can continue only if housing debt grows faster than GDP (over the last 10 years mortgage debt has increased from 18% to 80% of GDP). The game will certainly end when the burden on households of ever-higher loans becomes so great that they cannot borrow any more and lenders become reluctant to lend because they consider their prospects for recovering the loan are poor. We may not be too far from the end of the game. Household debt levels in Australia and the US are both around 90% of GDP, but Australian debt levels are rising much faster.

    How much will prices fall under the successor belief system? Difficult to say, but prices would have to fall substantially before a rational investor who believes that house prices can fall would be prepared to enter the market.

  20. cicero: the reason people think current rental yields are good is because they are in comparison to what they have been. In addition, at least in cities like Melbourne, with population growth and the fact that most areas close to employment are basically completely built up, it seems pretty likely that they are going to increase a lot more. The only thing likely to stop this (excluding more radical alternatives) is either a decent recession or the government cutting back immigration (a lot). Even if they do the second of these, however, because of population aging, where fewer people live in more houses, there is still going to be a housing shortage for the forseeable future. I imagine this will only stop when housing becomes so expensive in Melbourne that immigrants/residents start looking for other cities to live in as seems to have happened in Sydney.

  21. As a unemployed previously a person charged publicly as a dole bludger,now a pensioner,still considered as a potential cheat,rightfully so,if you are bloody government..let me say this..it is possible to windbag on about fairness then and unfairness now,like this wisdom brings with it by statement alone,the basic ingredient of uncontestable real and factual reasoning.And it will remain windbaggery,if it comes from people,who arent willing themselves to do a Jimmy Carter and build a few buildings themselves.Or at least think about burning a few calories using modern tools that require less effort.Does it really matter to, by implication, describe ,say, fibro as some sort of useless material,when in fact it wasnt,and now with many years of using it, in Australia,more practical and valuable uses for it can be incorporated into design!?The Australian housing industry has always been innovative,but ,that doesnt mean prices have met the expectations of abode dwellers.I agree,from observation, that Australian attitudes to housing and other matters are no longer committings to community.That may well be a unfortunate outcome of windbaggery across many occupations,incl. media windbags.What intrigues me however is the inflexible matters of land ownership,council and state requirements,which seem to often make life more difficult than it has to be.For example,it use to be common for live in security people in industrial sites, space is still there, flexible furniture and mobile too ..still exists!? Take a vacant lot,it is crazy.. all the restriction on use,when in fact,something as simple as a Statutory Declaration,between neighbours Council and other authorities could mean living on the block in caravans,,on top of truck bodies,with sound proofing applied by any number of products,and aesthetically pleasing.Chemical dunnies or compost ones!The SMH,today ,suggest some real numbers for the interest rate effected,these numbers make me really sad,although,I have my jealousies.And whilst we have the Corey Worthingtons offending the likes of me,at least,because I cannot have a large party,have the Police sent round,throw a few beer bottles at them..as as a test of aerodynamic flow in design of ant accommodation requirements,and, have a career that is short well paid and inflation hindering..I am not overly concerned about how the previous sentence,reads in so far as how I see the abode dwellers of Australia now.Surely the bunk of education specialty needs generalizing,that is, why isnt easy for Uni. Tech Colleges and High School students, to earn some money by organising,into work groups at building sites,without devaluing apprentices tradespeople builders etc.If we have a house crisis,as well as a paying the bloody house off crisis,then new rules need applying..which may incl. no-one can sit around on their arse in financial lending establishments,where home loans are delivered,unless they have at some part of their lives been part of house or dwelling building.And people could as home payer offers suggest maybe they need compensation rather than greater payments,on the basic principle that,in every regulated exchange involving consumers, there is a requirement that the exchange of contract meets the requirements of fairness in a actionable way.A loan is a form of contract.

  22. Housing markets come and go. The illusion of constantly rising demand/prices push is over. The cheap funds which allowed the demand are now gone.The US Fed interest rate reduction strategy is merely attempting to put a floor in the markets plural. The market will hold as long as income holds. Because it is a bubble, housing disinflation will be assymetric and unpredictable. As housing is essentially a needs good its elasticity is variable above a natural mean where everyone has essential shelter. Take away funding supply and you will depress the market until demand re-balances with the long term mean. That mean is a function of income over time. Current earned or borrowed income puts a floor in the Australian housing market as does the need for security. If you are not a speculator and unless hopelessly financially compromised, you or I are not going to sell any more than any of us blogging here. So why worry? What the houses are worth is no longer the issue but they cost to keep. The keeping was beyond some and they jumped out. A few bad loans does not collapse a financial system, unless we all were to get the plague tomorrow we are not going to collapse the housing market.

    To differ slightly and add to JQ’s, in my analysis the key permanent shifters in demand now being felt, after the turning off of the money spigot, they are the push from energy costs (transport and home use), food costs and other household fixed costs. On to this we can add the change in economic power from West to East. These factors are in turn being driven by diminishing petroleum supplies and changing climatic conditions. The cost of not mitigating climate change as a society is to my mind now identifiably present and will be the key driver of housing into the future. These are the real threats to income over time, plenty of unforeseen disruptions to economic activity and slowly escalating problems on the supply of all goods and services. We are now entering a possibly permanent period of constant demand pushed inflation, that is we have hit the ecological and energy boundaries of the planet.

    The federal and state policy required to be debated is not to how to manage the current housing market to shift to risk management of our current housing stock, agricultural sector, water management and energy markets. Climate change is drawing a new Goyder line right around inland Australia, demand for suitable land and housing sites will merely intensify. The markets will simply now become more chaotic.

  23. For those above who argue house prices don’t go up look at table “Basic Wage versus Median House Prices (approx.): 1980-2003” page 33.

    Click to access Finalaffordable.pdf

    It clearly indicates why housing is a good hedge against inflation.

    From 1980 to 2002 House prices increased 9% compound p.a. Wages 5% compound p.a.

    From 1980 to 1985 housing averaged 8.5 times the average annual wage, but by the time Keating had finished his dirty work introducing a capital gains tax and mucking around with negative gearing it jumped to 14 times average annual wage.

    Which commo said putting a tax on something would make it cheaper.

  24. From 1980 to 1985 housing averaged 8.5 times the average annual wage, but by the time Keating had finished his dirty work introducing a capital gains tax and mucking around with negative gearing it jumped to 14 times average annual wage in 1988.

  25. ikonoklast, speaking as a reasonably handy renovator, I would just like to say that I hate hardwood frames. Can’t drive a nail in or mortise. Give me pinus radiata any day. Far quicker and cheaper and if done to code I’m sure it’s as durable.

    But can someone explain to me the bit about old growth forests? What does this mean? I suspect people using the term really don’t know what it means…

  26. 1. Owning a house means that you no longer have the threat of being kicked out because the owner had sold up, or he wants to move back in. Moving house costs at least a couple of weeks of lost wages. Hence, people don’t mind to pay extra to be in better control of their destiny. Perhaps housing rental agreements should be structured more like long term commercial leases?

    2. Ownership of a house is driven by distrust of government that would permit rampant inflation, and the belief that home neighbourhood pressure groups keep housing scarce by lobbying against high density rezoning.

    Australia, being a country of large cities really ought to look towards the policies of city states like Singapore and see how the government makes public housing possible and affordable for all. Despite having very little land to “release”.

    In Singapore, only 10% of the population live in private housing. The government builds enough flats which they sell to their citizens, rationed to one per family. (read up Wikipedia for more details).

    This policy radically affects the sentiment investment in rental properties, since people who need houses can afford one already. In Australia, the presence of this kind of balancing factors can prevent the land grab that’s happening now.

  27. “speaking as a reasonably handy renovator, I would just like to say that I hate hardwood frames. Can’t drive a nail in or mortise. Give me pinus radiata any day. Far quicker and cheaper and if done to code I’m sure it’s as durable.”

    If you were renovating an old hardwood frame you’d have noticed some of the timber is now like iron and needs pre-drilling almost to full depth to nail successfully. Also it wears even tungsten carbide blades quite quickly. The old chippies weren’t silly and hand sawed and nailed it up green to season in the house. The only tradeoff was sticky sap all over you and the inevitable warpage and shrinkage. Radiata overcomes that providing it’s 30-35 yrs old and well seasoned. Trouble is they often cut it at 15-20yrs and it’s poorly seasoned, which leaves it to finish mowing about in your house. What you get depends on how well you know your supplier and whether you’re prepared to pay for the prime stuff. Then there’s the termite problem. They love the stuff and relying on physical barriers is for supreme optimists. It does come termiticide treated for extra bucks and you have to hand treat every cut end. By the time you do that, gunbarrell straight, zincalume steel framing with a 50 yr Lysaght warranty will eat it for breakfast.

  28. In one word: supply.

    State governments, local councils, and incumbent commercial interests such as Westfield successfully impose such onerous planning restrictions as to make new construction nearly impossible and undesirable even when it does happen. Throw in a dollop of irrational environmentalism and you have a vastly restricted housing development picture today than 20 years ago.

    It is purely the politics of an aging population. The older generations who own their homes have absolutely no interest in giving up their ill-gotten capital gains. So watch them continue to vote to screw their own children.

  29. As I’ve pointed out in the past, there is ample evidence to show that the supply story is unlikely to be right. Since supply restrictions have most bite on the urban fringe, tighter restrictions should produce a flatter price gradient as you move from the fringe to the centre. In fact, the opposite is the case.

  30. Mugwump appeared to be talking about supply restrictions that apply more to inner suburbs – height limits, subdivision limits etc. etc.
    It’s hard to see how lifting these restrictions wouldn’t ease prices somewhat.

    The other “supply” problem is surely lack of decent transport options to new outer suburbs. We probably would have chosen to move to an outer suburb if there was decent mass transit. Instead we just paid far more for a closer suburb.

  31. As I have pointed out in the past, the arguments against the supply story are simply wrong. There is a steep price gradient from the fringe to the center because governments refuse to invest in infrastructure and allow commercial development that would make the fringe more attractive (eg roads, public transport, malls).

    Supply restrictions in Adelaide take many forms, including: an urban growth boundary which forbids development outside a narrow boundary around the city; lack of infrastructure investment, so any new developments that do go up are poorly served by transport and services; inadequate provisioning of commercial services such as shopping malls, so that new developments are unattractive due to lack of amenities; exorbitant development taxes ostensibly to pay for schools and other infrastructure that our income taxes once paid for.

    The list is a lot longer, but this is plenty to make the supply argument.

    The difference between the generations could not be starker. Large tracts of suburbia were built out in the 60s and 70s, with new roads, new schools, and new commercial services. All paid for out of general revenue by governments that believed in development. Since then, Adelaide has had one new major road built – the Southern Expressway. But the morons in government couldn’t even be bothered making it two-way. I kid you not, it goes one way in the morning, and the opposite way in the evening. Nothing screams anti-development more than that.

    Now, every homeowner pays five times over: once for the land supply restrictions (in the least densely populated country on earth, go figure), once for the onerous planning process (13 years from proposal to first turf turning in Adelaide, no doubt just as bad in other states with the possible exception of WA), once for the public infrastructure, once for the lack of private infrastructure, and once through their income taxes.

  32. OK, you’re using the term “supply restrictions” more broadly than I would, but I agree with much of what you say. Governments aren’t taxing or spending enough, and the burden is borne more in outer suburbs where private alternatives are less available, and where the need for new infrastructure is greatest. So prices in the inner cities, with good access to private schools, luxury retail services and existing free roads are rising more rapidly than those in outer areas

    As I pointed out, restrictions on urban development at the fringe affect prices in the opposite way, so their effects must be pretty minor. But all the other factors you mention regarding inadequate public expenditure seem to work pretty well.

  33. “Australian house prices have been far above their long-run equilibrium value for at least five years,”

    It is supply and demand. The GST is distorting the supply of new housing in the market, by inhibiting supply. It is the distorting effect of the GST that is causing house prices to go above their long-run equilibrium value.

    The GST is levied on new housing.but it is not levied on existing housing. New housing can not compete cost effectively with the existing stock, as it is essentially 10% more expensive.

    If the existing stock is always at a 10% discount, it is a incentive to refurbish and keep it. Conversely if new housing is 10% more expensive it is a disincentive to consolidate and manufacture more new housing.

    This distorting effect created by the introduction of the GST on new housing only is why the production of new housing is falling and failing to meet demand. Demand is outstripping supply, manifesting itself in spiralling rents with lower vacancy rates and rising house prices.

    The best way to alleviate the housing affordability crisis is to help the supply side of the equation. This can be done by eliminating the distortion between the supply of the existing and new housing markets.

    Removing this distortion could be done by either introducing a GST on existing housing or abolishing the GST on the manufacturing of new housing.

    Click to access Tax_Karantonis.pdf

    Table six in this study by Professor Angelo Karantonis clearly indicates that manufacturing of housing is taxed at a much higher rate than other manufacturing.- averaging 65% (the last row).

    As the manufacturing of new housing is already heavily taxed, the removal of the GST should be the preferred way to remove the taxation distortion in the housing market and to also give incentive to boost supply.

  34. Another distorting effect caused by the GST on new housing in the study by Professor Angelo Karantonis;

    “as also can be noted from Table 6, the major impact of the taxes are the GST (margin scheme) and the company tax, both of which are only levied
    when the property is sold. To minimise their taxes, this can lead to the practice of retaining a proportion of the development as part of the profit, in which case the developer would need to comply with the GST 5-year rule, which states that if the developer retains the property for period of 5 years or more, then the developer is required to repay any “tax credits� received in
    GST. However, should this practice become prevalent, it would mean fewer funds are being reinvested into future development and thereby have major implications for future supply.”

  35. Governments aren’t taxing or spending enough, and the burden is borne more in outer suburbs where private alternatives are less available, and where the need for new infrastructure is greatest.

    Governments managed to do all of this in the 60s and 70s with a total tax burden around 20% of GDP. Now they can’t manage it with 40%?

    Tax is obviously not the problem. The problem is sclerosis of the planning process (13 years for approvals? urban growth boundary??), idiotic infrastructure decisions (a one-way highway???). environmentalism gone mad ($30,000 fine for felling *any* tree over 2M circumference????), rampant NIMBYism, and powerful vested commercial interests. Fix those and it might make sense to start looking at the tax situation.

  36. On my use of “supply restrictions”: I use “supply” as in supply versus demand.People want decent houses in decent neighbourhoods with decent services and infrastructure. There’s no problem with demand, so the problem must be on the supply side of the equation.

  37. mugwump, but there is a problem with demand from the perspective of first-home buyers: there’s too much demand from cashed-up existing home owners.
    They are competing for the same homes, and the latter obviously have a significant financial advantage.
    Surely there must be some way of making alternative investments (especially into new property developments) more attractive to investors.

  38. “Fix those and it might make sense to start looking at the tax situation”.

    The logistical problems you describe are a lot worse in NSW. We have a project that consists of $200,000 worth of building works with $150,000 section 94 contributions. It is a minor subdivision that has taken 4 years to get approved. Those problems definitely need to be fixed, but I think it will be a long time before anything happens in that area as the problems are so great. Abolishing GST or stamp duty could be done quickly. AND SOMETHING NEEDS TO BE DONE QUICKLY to increase supply, as the affordability crisis is only going to get much worse.

    In a lot of inner Sydney LGAs you can knock down a house on 400m2 of land and subdivide and build 2 new houses on 200m2 of land. We use to do it, but now we just refurbish existing houses and leave them on 400m2+, because the tax regime on new housing production is so high.

    We also obtained an approval to knock down a block of 4 units and build 6 (this would of helped supply more stock for first home buyers.) It took 2 years to gain approval. The GST is calculated on all the holding costs e,g stamp duty, interest, rates land tax etc, but there are no input credits. So in the end it became more economical to refurbish the existing 4 units and sell them as there is no GST levied on the sale of existing buildings.

    We work on a margin of 10% to 15%. You can now only get about 5% on new construction if you are lucky due to its high taxation over 2 or 3 years thats a very low return. If the gst or stamp duty was abolished on new housing we would start production of new housing on our subdivision straight away, even with the other planning and infrastructure impediments.

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