Auckland House Prices --- The Ongoing Saga
Keith Rankin, 31 July 2013
Auckland's housing problem is not all that it seems. The price of housing - as opposed to the price of houses - is falling, not rising. Recent reports indicate a shortfall in demand for rental properties. (Renting in Auckland becomes easier, stuff.co.nz, 8 July; Home Truths, Dominick Stephens [Westpac]; Figures from economic research and analysis firm Infometrics ..., David Hargreaves, interest.co.nz, 24 July; Auckland rent rise lowest in years, Radio New Zealand, 24 July.)
That's hardly surprising, given that we know that many properties in Auckland are being bought by people who already have a home to live in. While some of these properties may be being left empty - landbanking is not confined to empty sections - a substantial number of these sales are adding to the supply of rental houses. While landbanking is the game, it is generally better to let properties rather than leave them vacant. (In TV's The Nation, 28 July, an agent suggests a $2 million Takapuna property would be a good one to "landbank and wait and see".)
The Infometrics report
shows that the rental demand in the former Auckland city is
the most sluggish, precisely where the biggest inflation of
house prices is occurring. And, according to the TradeMe
data used in the stuff.co.nz article, "in central Auckland,
the supply of rentals was up 5 per cent on the previous year
while demand was down 2 per cent and average asking
declined by 1 percent.")
If there really is a shortage of housing - in the sense that economists use the word 'shortage' - then the rental value of Auckland houses would be increasing. There is no present excess demand for accommodation in Auckland. (There is a shortage of rental properties in a different sense; given rising levels of inequality and poverty, too many people cannot easily afford these "low" market rents.)
Yet rapidly increasing house prices means that something must be in short supply; that is, in excess demand. That something is not houses, but financial assets. Houses - and especially the land that they sit on - fit the characteristics of financial assets. To buyers, houses in Auckland increasingly represent financial assets and decreasingly represent accommodation.
In the 1960s, new cars were scarce and expensive. Maintaining a strong resale value for a car was a very important kiwi preoccupation. And then in the 1980s, cars became abundant. They became almost solely a means of transport; their role as a store of financial wealth diminished substantially. Indeed in the central precincts of larger cities, even in Australia, the economics of renting cars as an alternative to owning them has become undeniable.
In developed countries such as Germany and Japan, housing has made this same transition. In these countries, if you want somewhere to live you rent a house, or an apartment. This is modernity. Further, housing is priced essentially according to its rental yield. To their owners, rental houses and apartments are financial assets; but they are plain vanilla assets, priced by yields. They are not speculative assets, priced on the expectation of leveraged capital gains.
In most English and Spanish speaking countries, this separation of housing from financial speculation has been a very slow process. Thus, nominal household wealth per person in Spain is actually higher than it is in Germany, patently a much wealthier country than Spain. Spain had an extreme housing bubble, and, unlike Germany, still has inflated real estate prices ("Average German net assets per household are just under €200,000, while they are €300,000 in Spain"; Wolfgang Münchau, The Riddle of Europe's Single Currency with Many Values, Financial Times, 14 April).
The key issue, today, is that there is an ongoing global savings glut. This means that people are neither spending enough borrowed money on consumer goods nor on investment goods to absorb that glut. Hence the glut is "invested" in existing assets, whether shares, bonds, vacant land, housing, art, commodity futures or financial derivatives. The prices of all these existing assets are thus pushed up, creating a global bubble. The growth of demand for such assets substantially exceeds the growth of new supply.
And, for the really serious accumulators of financial assets, something else happens. Once capital gains - taxed or untaxed - become a detectable trend, savers then borrow to buy even more of these assets, giving much greater nominal rates of return.
This is the process of leverage. In Auckland, a person who bought a house for $500,000 on an 80% mortgage in 2008 can now sell that house for $750,000. That's equity of $350,000 on their initial $100,000 outlay. That person can now buy a million dollar house by borrowing $200,000 against the first house and $800,000 against the second. They could then expect to sell both houses in 2016 for a total of over two million dollars. That person's $100,000 cash in 2008 would become $600,000 cash in less than ten years; 500 percent profit. That's better, for such a person, than leaving $100,000 in the bank at five percent per annum.
Capital gains on financial assets, such as residential property, are self-fulfilling. The high nominal returns on existing assets are created from the shared belief that there will be such high nominal returns. The belief arises from the lack of genuine investment opportunities, and from the savings glut.
Essentially the lack of investment in new assets and the savings glut are the same thing. If people are not spending enough - whether because of caution or because of inequality - then the demand for new productive assets will be low. And, by definition, if people are spending reduced portions of their incomes, then they are saving more. Growth of saving at the same time as a reduction in productive investment equals a savings glut.
A large proportion of the global savings glut finds its way, as debt, into the English and Spanish-speaking countries of the world. While much of the world's savings originates in these countries, there is nevertheless a net flow of savings out of Northern Europe and Asia; same as the net flow that existed in the 2002-08 period. People in Germany and Japan may not speculate heavily in their domestic housing markets. But their savings are nevertheless widely channelled into the world's bubble markets.
This is a global process. It's driven by increased inequality - too many people earning far more income than they can possibly spend - and middle-class people who believe that saving increasing portions of their incomes is doing good rather than harm to the world economy.
While many economists are generally aware of these points, they still cannot bring themselves to conclude that, under some circumstances (of which the Great Depression of the 1930s was one) excess saving is part of the problem rather than a part of the solution.
Shamubeel Eaqub, of NZIER, wrote an interesting piece in the NZ Herald on 24 June (Tax and foreigners wrong targets in housing debate). He observed that the real housing market is the rental market. He said: "There is no homelessness problem. Rent … is now lower as a proportion of the house price than in the 1990s. Renting a comparable home typically costs half the costs of home ownership."
He went on to note that the problem is "rising house prices funded by highly geared [ie leveraged] borrowing", as I have noted. Thus Eaqub understands two-thirds of the issue: too much borrowing by people buying houses as financial assets, and too much lending to them by banks. The part of the issue that Eaqub understates is the flow of global savings into the banking system. Banks are intermediaries, not creditors. Indeed banks themselves are taking advantage of the global savings oversupply to themselves play the leverage game, boosting their present profits. We have to understand the inflow of funds into the banking system before we can evaluate banks' lending practices.
Eaqub, an excellent economist, does understand this part of the issue; he just doesn't quite join the dots. Thus, he thinks it's an excellent thing to do to expand Auckland's housing supply both outwards and upwards, despite his observation that low rents equate to an adequate quantity of housing for people to live in.
More significantly, Eaqub says "Foreign investors own 35 per cent of our sharemarket... Do we want to stop foreigners investing in our equity market too? Will we stop foreigners funding our mortgages? Will we stop ourselves from investing overseas? Where does it stop?" Thus he acknowledges the substantial inflow of foreign savings.
The amount of foreign money going directly from foreign buyers into New Zealand's property market is a somewhat small tip of a very large iceberg. The Auckland housing market represents a very small part of a global problem. It's not mainly a problem of government policy. It's not mainly a problem of bankers' greed; although to some extent it is a problem of collective stupidity in the banking sector. Eaqub noted that "banks seem to be lending money on the assumption that house prices will rise forever". What seems sensible to individual players (such as banks) may be quite stupid when considered systemically.
The problem is not housing affordability. Eaqub noted clearly that Auckland rents are not high. Rather, "the main risk from rapidly rising house prices is to the financial stability of the banking system". He wants to save banks from themselves. Eaqub favours building more houses because there is a shortage of financial assets, not because there is a shortage of dwelling-space.
The cause of the problem - the problem that makes real estate both a plaything of the rich and a threat to the banking system - is the global saving glut. There is too much unspent income because of too much global inequality, too much fear, too much greed, too much miserliness. Too many people accumulate financial assets for their own sake, and not because they are actually saving for anything, or investing in anything; they accumulate these simply because they like counting their money. They like to watch the nominal values of their financial assets increase, first as a hobby, later as an obsession.
While we cannot do much about a problem unless we are open to understanding the problem, sometimes we inadvertently do solve or relieve such intractable problems. The most important solutions to this global problem will probably arise, incidentally, from solutions to other problems such as inequality and unsustainable growth. For example, if rich people both pay their full share of taxes and give away what they do not ever intend to spend, then new investment opportunities will appear. If rich people put less effort into making even more money, and more effort into ensuring that what they already have is spent, then the global economic outlook will improve.
simply wanting somewhere to live, the solution is to rent.
Buying speculative assets that one cannot afford is just not
worth the risk. If one must get on the 'property ladder' - a
term itself infused with speculative intent - then buy an
affordable house somewhere else, and rent it out. The aim of
owning one house is an honourable one. It doesn't have to be
the house you live