Peter Lyons: Regarding the family silver

Treating houses as speculative commodities, rather than homes, creates serious social and economic problems for a society. House prices should reflect national prosperity, not the other way around.

In a prosperous society, owning a home should be more affordable for the average citizen, not less.

Inflated house prices are preventing first-home buyers entering the market, leading to a fall in home ownership rates in New Zealand. There is a logical inconsistency in this statement.

If new home buyers are unable to buy, demand should fall, which in turn should reduce prices and increase affordability.

This leads to the counter argument that first-home buyers are being excluded from the market because demand is being driven by New Zealand and overseas investors, particularly baby boomers, creating a nest egg for their retirement. The sustained demand is also the result of high levels of immigration.

These counter arguments about what is driving the market may be true but they contain a flaw in logic that could be costly for these investors in the future.

If a large proportion of the population intends funding their retirement by rentals or sale of their rentals, who is going to pay the rent or purchase price and how are they going to earn their income in order to do so?

The value of housing investments ultimately depends on rental yields, which in turn depend on the level of people's incomes.

If immigration has been the key driver of the housing market, this fails to explain the surge in prices in areas such as New Plymouth or Dunedin or Balclutha, which have had little population growth.

A country's prosperity ultimately depends on the sale of its goods and services, not the value of its houses.

While a housing boom may be profitable for astute individual investors, it adds little to the overall prosperity of a country. Widespread speculative activity in housing creates long-term economic and social hardships for a country while adding little to the net wealth. The only long-term winners are real estate agents, banks and other lenders and the fortunate few who time the market carefully.

Many younger people are excluded from home ownership and all the benefits that go with owning your own home at a realistic price. Those wishing to own their own home must borrow huge amounts to put a roof over their heads. The high cost of debt servicing reduces their discretionary income.

They are vulnerable to unanticipated shocks, such as petrol-price hikes or sudden interest rate spikes. Money worries put pressure on relationships and family life.

People are required to work longer hours to fund a lifestyle that is no better, and in many cases worse, than that of their parents.

They are working harder yet making little headway or going backwards as a greater proportion of their income is spent on housing costs. We are living in the age of diminished expectations.

Inflated house prices have a number of adverse consequences on an economy. As people borrow more to buy a house, the level of national indebtedness increases and this is at record levels. This is shown in our large annual current-account deficits, which represent our level of borrowing from offshore.

The problem with this debt is that it is not being used to expand the productive capacity of our economy. Investment in businesses and infrastructure increase economic growth. Money borrowed to pay inflated house prices adds nothing to future prosperity.

As this debt is serviced from people's incomes, there is less money available to invest in other activities such as assets used for producing goods and services. While we repay our huge mortgage debts to largely overseas lenders, our companies are gobbled up by overseas investors.

Corporate takeovers by offshore interests are a key feature of our sharemarket. This means the future profits of these companies will accrue to overseas owners.

Immigration levels, lower interest rates, and a globalised housing market have all been cited as key contributing factors to the housing boom. Little has been said about the effects of a deregulated financial sector.

The deregulation of our banking and finance sector has meant there are no direct controls on lending practices in New Zealand. Banks and other lenders have been falling over themselves to offer mortgage finance to New Zealand borrowers. If our housing market has been the biggest game in town, our banking sector has provided a vocal and effective cheerleader squad. The extent to which lending practices have driven our housing market was clearly seen last year when the brief bank interest-rate war led to a surge in house prices.

The process of mortgage lending in New Zealand is hugely profitable for lenders. Banks and other institutions are able to source a large portion of their funds from offshore.

They can then pump this money into mortgage lending in New Zealand at higher rates. Contrast how easy it is to get a home loan now compared with 20 years ago. This has had a huge influence on house prices.

The only constraint on this very profitable process is the willingness of overseas people to lend, and the willingness of Kiwis to borrow. To a large extent we are using overseas money to bid up our own house prices.

Immigration levels and overseas buyers have had an impact but just as important is the willingness of Kiwis to take on more debt.

The result may be that we end up living in overpriced houses while many of our productive assets are owned by overseas interests.

Economics is all about people making choices. These choices are determined largely by people's tastes and values.

Owning your own home has been a core value of New Zealand society. The combination of this key value with an abundance of easy credit, an element of greed and fears about retirement have been key drivers of this housing boom.

* Peter Lyons is a lecturer in economics at Otago University.