Dialogue: No revival in sight for static housing market

Where is the Auckland housing market headed? Not far, unless there is a sudden influx of rich immigrants to mend a leak in the speculative bubble, says PETER LYONS*.

New Zealanders are a speculative breed. In the 1980s, this was reflected in the sharemarket; in the 1990s, the focus shifted to the housing market, particularly in Auckland.

Much of the housing inflation in Auckland was attributed to immigration levels, but other factors were involved. Among these was the deregulation of the financial sector, which resulted in the availability of easier access to mortgage financing.

The increased emphasis on provision for retirement also led to greater housing demand as baby-boomers invested in rental properties.

The investment was based on the premise that rental properties were a failsafe winner, providing an income stream and potential untaxed capital gains.

From the 1970s to the late 1990s, capital returns in the Auckland housing market outpaced inflation significantly. This has not happened in recent years and is unlikely to develop in the foreseeable future. Hence the moribund property market.

The speculative property bubble of the mid-1990s has not burst. Rather, it has developed a gradual leak. Housing is unlike other markets. Because of the mindset of historical capital gains, people tend to withdraw their properties from the market rather than accept prices below expectations.

Several vested interest groups continue trying to pump air back into the bubble. The real estate and banking industries have the most to lose from a moribund or declining housing market, apart from property owners themselves.

To promote buying activity, the real estate industry has promoted the idea that "selling and buying in the same market makes sound financial sense."

In a declining market this wisdom is somewhat dubious, as the absolute dollar losses on a higher-value property will tend to be greater.

If the vested interests of the real estate industry are fairly obvious, those of the banking sector are less so. Much of the bank financing for lending in the 1990s came from overseas.

Because of the tight monetary policy in New Zealand, coupled with New Zealanders' poor savings record, borrowing rates were cheaper abroad.

A declining property market undermines the value of collateral on mortgage lending by banks. An absence of buyers also reduces lending opportunities and banking profitability.

For these reasons, it is not surprising that both groups continue to trumpet the merits of home ownership despite the potential pitfalls of investing in a moribund or possibly declining market.

The Governor of the Reserve Bank, Don Brash, has repeatedly expressed his concern about our obsession with home ownership.

His comments have attracted much criticism, as would be expected when someone questions a central aspiration held by most New Zealanders.

But his comments have been shown to be astute, as would be expected from someone with a bird's-eye view of the economy.

Many of the bank home-lending advertisements today advocate housing as "the investment that you can live in."

This is almost a tacit admission that widespread investment in housing for speculative gain is a thing of the past.

Many New Zealanders appear to be coming to this conclusion. The problem is that we may have to pay the price of past speculative behaviour.

Today's levels of household indebtedness are at a record high. The relationship between average household incomes and average property prices in Auckland is also at historically high levels.

This implies that debt servicing is taking an increasing portion of household disposable income, which, in turn, reduces the ability to save. Anecdotal evidence suggests that a number of Auckland people who bought homes in the mid to late-1990s are sitting on negative equity.

Unless there is a sudden large influx of rich immigrants, it is unlikely that the housing market in Auckland will soon be heading upwards at a great rate.

Other factors, such as the emergence of once-potential first-home buyers saddled with student debt, are also coming into play. Increased apartment construction must also have a deflating effect on property prices.

The ageing of our population, increased disparity in income distribution and a net migration outflow must also hurt valuations in different sectors of the property market.

Further, the increased transient nature of work and careers plays a part in reducing people's willingness to commit to home ownership.

The key point here is: where is the demand going to come from to cause sustained rises in residential property prices in the foreseeable future?

If this article appears to be doom and gloom, it is not intended as such. People still have to live somewhere, and owning your own home provides a degree of security and other intrinsic rewards.

It is, however, important that we question our reasons for doing things, particularly in making such important decisions as home ownership. To buy a house as a speculative investment is high-risk, particularly if such an investment is not part of a well-diversified investment portfolio.

Examples of speculative financial bubbles are evident throughout history, from the tulip mania of Amsterdam through to our own sharemarket collapse of the 1980s.

The recent history of the housing market in Auckland exposes a fallacy of economic orthodox thinking. Adam Smith said that in a market economy, "the private interests and passions of men" are led in the direction "which are most agreeable to the interests of the whole society."

This quote, which underlies the entire philosophy of capitalism, exposes a key potential flaw or black hole in economic thinking - the impact and origins of a society's values.

In the case of New Zealand, the "value" of home ownership is in the process of being severely undermined. Individuals treating housing as a speculative investment are not acting in the economic interests of society as a whole.

The effect in Auckland has been to inflate house prices beyond the reach of many low and average-income earners. It has also lead to the somewhat bizarre situation of New Zealanders using money from overseas to bid up their own property prices.

Economically, one of the more disastrous effects has been the application of borrowed money to buy overinflated non-productive assets when this money could otherwise have been used for productive business and social investment.

* Peter Lyons is head of commerce at Marcellin College, Mt Albert.