The sector that is driving the economy, housing, is coming under unprecedented attack.
Those bidding up prices in Sydney, Melbourne and Brisbane auctions this weekend -- and particularly Sydney --- are gambling that the forces building up beneath the surface will amount to a row of beans and come to nothing. But, in my view, the risks are greater than is appreciated in the general community.
Let's go through what is happening. The almost uninterrupted dwelling price rises over recent decades are a reflection of a rising population and regulation-created shortages. At the same time, lending on housing has been very profitable for banks and they have a deep vested interest in making sure that there are sufficient funds fuelling the housing markets so prices at least stay stable. That way, bad debts on mortgages are kept to a minimum. And the banks have fuelled the latest buying frenzy by slashing term deposit interest rates. (Banks are cleaning up by crushing savers, March 3.)
Any interruption to the flow of funds to housing at a time of rising unemployment is dangerous both for banks and the housing market. Yet the Reserve Bank is urging the government and the regulator to curb the flow of funds to those bidding up house prices so the central bank can stimulate the economy and lower the dollar by further reducing interest rates.
Financial system inquiry chief David Murray is widely respected and is warning that there is a housing bubble being created that will affect the finances of our banking system and our credit rating when it bursts, as it inevitably will. So Murray is urging a series of measures to curb the flow of funds into housing, including not allowing the deficit on investor dwelling investment to be offset against other income -- so called ‘negative gearing’. He also wants lending on dwellings to be made less attractive to banks, including by lowering the asset ratios to investor loans.
The ability of superannuation funds to borrow to invest in housing is also under pressure. If these proposals are embraced they will lower dwelling prices because they will reduce the flow of the essential ingredient boosting the demand: funds.
But in Melbourne and Sydney one of the biggest source of funds is the buying by overseas Chinese and other Asian investors. This overseas buying takes three main forms -- buying apartment projects off the plan usually by paying a 10 per cent deposit, working with family and friends in Australia to buy dwellings and outright direct purchase of apartments and dwellings. Treasurer Joe Hockey is attacking the third avenue, direct purchasing, which for many Asian investors has always been illegal without permission but the law has not been enforced.
On its own, this attack will not impact the market but if continues it will make those overseas investors who are using family and friends to invest more nervous. Those buying off the plan may suddenly wake up to the fact that, if it is hard for other Asian investors to buy their property, when the development is completed it will affect values.
This danger multiplies if local funds for dwelling investment are curbed via the Murray recommendations.
Offsetting these forces is the fact that, longer term, the Intergenerational Report shows that we are likely to live longer, which increases the demand for dwellings. Any group of politicians or regulators who reduces dwelling prices will be unpopular, which is why is rarely happens. But we are in unusual times.