How long has the lucky country got?

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How long has the lucky country got?

By Edward Chancellor

It is now generally accepted that housing bubbles contribute to financial vulnerability. Rapid

credit growth has also been recognised belatedly as another red flag. The US, UK, and parts

of continental Europe are still suffering from the aftermath of the real estate and credit binges.

Yet the Australian housing market remains strong and consumers are still eager to borrow.

Between 1996 and 2006, US home prices rose by nearly 90 per cent in real terms. Australian

home prices rose by roughly the same amount.

Over this period, the US private sector increased its indebtedness by two-thirds of GDP.

Australian private debt increased by a similar magnitude. Over the past three years, US home

prices have fallen by 30 per cent, according to the S&P/Case-Shiller Composite Index.

American households have started to deleverage. By contrast, Australian home prices have

climbed 30 per cent since 2006 and households continue to pile on debt.

There are a number of explanations for this divergence. Unlike the US, Australia did not

experience much growth in housing construction during the boom. So there was less excess

supply to weigh down the market. Furthermore, Aussie banks behaved more responsibly.

Australians were not deluged with “liar loans” and subprime detritus. Their greater prudence

is best explained by the lack of competitive pressures in the Australian banking system,

which is an oligopoly dominated by four large banks.

Furthermore, while American mortgages are mostly fixed rate loans, Australian homeowners

tend to borrow at floating rates. Therefore, they gained more when central banks slashed

rates during the credit crisis. Australia also benefited from last year’s rapid recovery of

commodities, which account for nearly two-thirds of exports. Rising commodity prices also

serve to boost capital investment.

Finally, there is the policy response to consider. While other governments expended their

resources on shoring up busted banks, the Australian stimulus went straight to consumers.

Fiscal transfers increased personal disposable incomes by 4 per cent, according to Professor

Steve Keen of the University of Western Sydney. Canberra also bolstered the housing market,

raising the subsidy for first-time home buyers to a maximum of A$21,000 (£12,200, €14,000,

$18,600). Rising home prices arrested incipient deleveraging by Australian households.

Outstanding mortgage debt has actually grown by 6 per cent of GDP since February 2009.

Australia may have been fortunate. But it is not out of the woods. For a start, the real estate

market remains in bubble territory. Australian home prices are currently some 70 per cent

above their long-term trend level. A recent survey by Demographia International finds that

all of Australia’s major housing markets were valued at more than five times average

incomes, and defines them as “severely unaffordable.” Initial mortgage payments for a home

in Sydney or Melbourne are likely to exceed half of your disposable income, claims Demographia.

The Australian housing market looks vulnerable to further rate rises.

Then there are the waning effects of the government’s stimulus to consider. The extra subsidy

for first-time home buyers ended last year. The removal of this grant could have a similar effect

on Australian real estate as the UK government’s reduction in mortgage interest relief in 1988,

which killed off the frenzied Lawson housing boom. Prof Keen claims the first-homeowner’s

grant has sucked people into the housing market who would not otherwise have bought. One

report suggests many recent first-time buyers in Australia are already struggling to meet

payments. This is eerily reminiscent of early stage delinquencies on subprime loans in the US

back in late 2005. Australia is also exposed to the removal of China’s stimulus measures.

China’s actions boosted commodity prices and improved Australia’s terms of trade. Now,

Beijing appears more concerned about inflation and potential bad loans from uneconomic

investments.

Aussie house prices have not fallen since the early 1950s. A certain complacency is therefore

understandable. Yet not long ago many Americans also believed that domestic home prices

could never fall. So far Australia has avoided its day of reckoning. But how long will the lucky

country’s luck last?

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