Bubbles burst, so we should all hope that investment in Sydney’s housing market isn’t blowing one. It starts with the big operators -- the big funds, trusts and property tycoons -- quietly selling out. They are followed by the fleet-of-foot speculators selling in a frenzy that sends prices plummeting. The millions of ordinary investors are trapped with properties worth less than their mortgages, then the fallout begins for banks and the economy at large.
It happened across most of the advanced world in 2008-09, all sparked by an unsustainable surge of mortgage lending in the US, largely to poor blacks.
No wonder Tony Abbott declined to echo the comments of his Treasury secretary John Fraser that housing markets across Sydney and large parts of Melbourne are 'unequivocally' a bubble. Instead, the Prime Minister channelled the hopes of the two-thirds of Australian households with mortgages or owning their home outright that their biggest asset would go on quietly appreciating in value.
Bill Shorten quickly realised that he could still claim the third of households who are renting and, to the extent that parents worry about their children not being able to enter the market, he might chisel some homeowner support away from Abbott as well. It was pure opportunism. Both sides take the risk that, by buying in, they are held responsible for something over which the commonwealth government has no control.
Fraser pinned the blame for the boom in Sydney house prices on the Reserve Bank, saying it was ultra-low interest rates, and not the tax advantages that property investment had enjoyed for decades, that were driving prices higher. A fall in interest rates generates a disproportionate increase in the present value of assets that are paid off across a long period.
It was the fall in rates through the 1990s as the Reserve Bank got on top of inflation that generated the huge rise in house prices and an accompanying growth in household debt through that decade.
There has been criticism that neither the Reserve Bank nor the Australian Prudential Regulation Authority is sufficiently serious about the risks in the housing market.
The Reserve Bank, it is said, is playing with fire by cutting rates so low. The surge in Sydney prices is dated back to its cash rate cut to 2.5 per cent in August 2013. APRA is accused of being flat-footed in bringing lenders to heel. Average lending to investors across the country is still faster than the 10 per cent limit APRA recommended last December, suggesting many lenders are lifting their investor loan portfolios much faster than that.
International Monetary Fund research shows that 60 per cent of housing price booms end peacefully rather than in panicked busts. The previous price boom in Sydney in the early 2000s saw prices soar by 60 per cent in three years, then remain almost flat for a decade. This was not a bubble; they don’t slowly deflate. No one was sent broke and no banks failed, but the buying frenzy was at least twice as intense as is being seen now.
You never know whether an asset price boom is truly a bubble until it is too late. There are common features: prices soaring, a plausible story about why the price rises makes sense, a fear that if you don’t get in it will be too late, and lots of debt. But the manner of a boom ending -- whether it is with a bang or a whimper -- is impossible to predict.
There are some good fundamental reasons Sydney’s housing markets should be strong. Its population has been growing by almost 2 per cent a year while the Australian Bureau of Statistics shows the inner-city population has been rising at an average of more than 3 per cent a year for the past decade. The change of government has made people a lot more confident and the finance sector, which dominates the Sydney economy, is doing well.
However, the market is undoubtedly hot. When prices take off in the housing market, the supply of property falls as investors decide to hold on to assets in the hope of future gains. This intensifies the property cycle. According to property research group SQM Research, the number of property listings in Sydney has dropped below 20,000, which is less than in Brisbane and fewer than half the listings in Melbourne.
The Reserve Bank has to respond to the economy as a whole. The Australian dollar would be much higher and the domestic economy much weaker had the bank not pushed rates lower. Many other advanced nations have been wrestling with the same tension of lowering rates to support economic activity at the price of house price inflation.
The Reserve Bank has relied on APRA, which has responsibility for supervising the bank sector, to ensure institutions are not taking excessive risks with their lending to property investors.
APRA chairman Wayne Byers is no Eliot Ness storming into institutions with the media in tow. There are no announcements to the market or anywhere else if APRA asks an institution to operate with additional capital or tighten lending standards.
The fact investor lending is still rising quickly does not mean nothing is happening. It was probably headed for 15 per cent before APRA stepped in and it takes time before new limits show up in the annual growth numbers.
APRA is satisfied banks are behaving prudently and that the financial system could withstand a big fall in house prices, were that to occur. It is APRA’s responsibility to ensure lending standards are maintained, not to stop individuals from making unwise investment decisions. It was to those individuals that Fraser’s 'bubble' comments were directed. They ignore him at their peril.
This article first appeared in The Australian Business Review. Reproduced with permission.