Open Letter To Alan Bollard Re Household Savings
Open Letter To Alan Bollard Re Household
1 October 2006
Reserve Bank of New Zealand
2 The Terrace
P O Box 2498
Dear Dr Bollard,
RBNZ PAPER – HOUSEHOLD SAVINGS & WEALTH IN NEW ZEALAND – SEPTEMBER 2006
Thank you for the efforts of the Reserve Bank in preparing the above paper. It is a most helpful contribution to the discussions currently underway with respect to housing affordability, urban regulatory issues and the impacts on the wider economy. It needs to be noted too, that the Reserve Bank under your leadership and that of your predecessor Dr Brash, has over a long period made a substantial contribution to this issue.
The purpose of this letter is to provide you with the perspective of a property practitioner. I am not an economist and you will note that often throughout this letter, I will not necessarily use economist’s language, but simply that of a practitioner. Some of it will be “property slang” and indeed be rather direct. You will no doubt be aware that the writer was the instigator and co author with Wendell Cox of St Louis, Illinois, USA of the Demographia International Housing Affordability Survey www.demographia.com. The Second Annual Survey was released 23 January this year and to date around 165,000 have been downloaded. Interestingly, some eight months following release, it is still being downloaded at the rate of approximately 4000 per week. There was a huge voluntary effort put in to the second Survey by Mr Cox and myself.
THE NEED FOR SPECIALIST URBAN ECONOMISTS
I am strongly of the view that we do not currently have any skilled urban economists in New Zealand and Australia. A view incidentally shared by a good number of economists I know as well. This is rather surprising when one considers that our urban areas are – or at least should be – the powerhouses of our modern economy. In large measure I think this is due to “planners” to date being seen as the “urban experts”. I am pleased to say though that this is changing very rapidly as more Think Tanks, economists and other professionals internationally with robust training (unlike planners) are now taking a keener interest in urban issues. Before too long – I am sure that we will see these people dominate these issues – and the planners themselves will either embark on sound retraining or find something else to do. This comment may at first sight seem a little harsh, but the reality is that the planning profession has a lot to answer for, with respect to the massive environmental, social and economic damage it has inflicted on our urban areas over the past twenty years or so. I will expand on this issue of “education” further through this letter.
In fact we are only at the early stages of researching and learning more about the massive damage created by the land use regulatory administration we have endured for more than twenty years now. As a practitioner, I am keenly aware of most of the “self inflicted” problems and it is particularly pleasing to me to see the rapidly expanding interest by properly trained professionals (including economists) in the issues we are dealing with. We have a saying in the development game “If you get the land wrong – the rest of its wrong”. It would be fair to say, I think, that the significance of this statement is becoming more widely understood.
THE IMPORTANCE OF THE DEMOGRAPHIA SURVEY
The Demographia Survey with the median multiple approach is hugely important. What surprises me somewhat is why this approach was not taken well before now and further to this, why it was necessary for a global demographer and transportation expert of Illinois, USA and a commercial property developer from Christchurch, New Zealand, to get one underway. Yet the “property professionals” persisted in generating technically unsound Housing Affordability Indexes for years. I wonder if much of this was deliberate, so that the structural problems of the property sector were effectively masked.
The Demographia Survey is important for the following reasons. Firstly, the median household income and median house prices are shown, so that they can be scrutinised and questioned if need be. Secondly, the latest Survey clearly illustrates that most urban markets within the countries surveyed were affordable or near affordable twenty years ago and that twenty four North American urban markets are currently affordable. Thirdly, we ensured that this was broken down in to categories of affordability – such as affordable, moderately unaffordable, seriously unaffordable and severely unaffordable. This is important (as we explain within our endnotes) as the statistical information cannot be considered “precise” and therefore it is more appropriate to be talking in terms of “categories of affordability”.
WHAT SHOULD HOUSING BE WORTH?
We know housing in New Zealand is around a multiple of 6.0, in the range of “severely “unaffordable”, whereas it should really be in the range of 2.5 to 3.0 throughout the building cycle. May I suggest that the Reserve Bank consider using the median multiple as a base, to gauge the extent of the problem we are now dealing with. Let’s use the median multiple of 2.8 as an adequate midpoint. With a housing stock of around 1,400,000 and an overall wealth (your Report Table 2 – 2005 figures) of $506 billion, this would indicate that the average price is around $361,000 and the median, around $300,000. At a median multiple of 2.8 instead of the current 6.0, this would suggest that household wealth should be around 46% of what it is currently. That is, instead of $506 billion, it should be in the order of $234 billion – some $272 billion less than what it is. This last figure or something approximating it should not be considered “wealth” – but simply what it is – “inflation”.
If there is any relationship between housing wealth (really wealth and inflation in New Zealand’s case) check back through Table 2 of your Report when the housing wealth of New Zealanders was at or near $234 billion. We would need to go back to 2000, where the total New Zealand house values were $231 billion. Interestingly at that stage total household liabilities (mortgages and other household debt) were $78 billion whereas within a very short period of 5 years - in 2005 this had exploded out to $142 billion – some $64 billion higher than the 2000 figure. Even with lower interest rates and a more buoyant global economy, one wonders if at least $40 plus billion of this household debt, has been needed to “fuel” the “artificial land scarcity boom”. It would appear so – if the movements’ in house wealth and household liabilities within the Reserve Banks Reports Table 2 is any guide – whilst the lifts through the 1990’s were very moderate through the earlier period.
SOME IMPACTS ON MARKET BEHAVIOUR CREATED BY ARTIFICIAL SCARCITIES
I don’t know what the annual “churn rate” or turnover figures are for New Zealand housing precisely, but suspect they are in the order of 10% of the housing stock annually. The Real Estate Institute people handle around 75% of this I understand – the rest is sold privately. This would suggest that around $50 billion of residential real estate at these inflated figures is currently being transacted annually –whereas in a normal open market (not closed with artificial zoning scarcities and inflated values) it should really be less than $25 billion annually. We do know for example that “churn rates” increase where the market senses scarcities and engages in “one way bet” speculation. In comparing our turnover rates adjusted for population differences, with the more open market of say Houston www.har.com , it appears that speculative activity lifts turnover rates by at least 20% through a market upswing. Anything can happen through the downswing. We do know that artificially inflated markets are hugely volatile, particularly with respect to existing and new housing construction transactions – as the grossly inflated coastal US urban markets are illustrating at the moment. Taking these two factors in to account, suggests that our residential annual turnover figure, should be in the order of $20 billion, not the approximately $50billion it is currently.
So with these massive household debt lifts and inflated turnover figures – no wonder the Reserve Bank is experiencing “some difficulty” in attempting to cool and stabilize the economy. It would be fair to say too, that the planning community appears oblivious to these market disruptions and distortions.
DEGRADING THE HOUSING STOCK - DENYING THE YOUNG HOME OWNERSHIP
Even with this land scarcity precipitated “boom” (actually inflation) and the truly massive amounts of additional debt and equity liquidity as roughly outlined above, our housing stock is degrading overall and our homeownership rates are falling dramatically – as understandably existing homeowners are leveraging off their inflated equity to crowd out young people trying to enter the housing market.
In a recent speech to the Real Estate Institute of New Zealand’s Annual Conference, the Minister of Housing Hon Chris Carter stated that in 1991 our home ownership rate was 74%, in 2001 68% and estimated to be overall in the order of 65% with Auckland 61%. I suspect that when the latest Census figures are released 9 December, we may find that these latest estimates are too high. It appears to me that something in the order of 0.75% to 1.0% of our housing stock annually is going out of home ownership to the rental market. It could well be more, as anecdotally; I understand in Christchurch currently half the housing stock being transacted is going in to the rental market. But even at 1% of the housing market – this would suggest that at least 14,000 houses a year are currently being transferred out of home ownership and in to the rental market. This of course is “tough luck” for those young people being effectively shut out of the market.
REDUCED NEW CONSTRUCTION AND POORER QUALITY STANDARDS
As I said before, our residential stock is being seriously degraded through this artificial inflationary process. In my research of open North American urban markets, my sense is that – if the annual population lift is in the range of 0.75% to 1.0% - the build rate per thousand people should be in the order of 7 to 9 through the building cycle.
I find this “build rate per thousand people” an extremely useful measure – and understandably, one that is in common usage internationally. Britain (the property / planning basket case of the developed world) has an appalling build rate of less than 3 per 1000. You need this build rate – or near it - for replacement alone. One researcher (from Audacity UK) is of the view that British housing will need to stand up for 1,600 years at current build rates! The current size of a new British residence is 76 square metres (in 1920 it was 120 square meters) and projected to shrink further. Australia’s build rate is currently at about 7, Texas slightly higher than 9 and Houston around 13 (huge population lift over the past 12 months – near 5% - with Hurricane Katrina victims added in).When build rates and house sizes are combined, my rough calculation is that Britain is currently constructing annually, just 10% of the residential floor space Texas is. Ireland (with average new house sizes of just 85 square meters) at this stage is something north of 20, where a land supply induced speculative frenzy is playing itself out. My view is that Ireland will pay a huge price before long for adopting the failed British planning system.
The Texas markets are an excellent gauge as they are “open” and don’t engage in land supply strangulation, as is the case here in New Zealand, Australia, Britain and Ireland. Dr Alan Moran of the Australian Institute of Public Affairs ( www.ipa.org.au ) provided some excellent comparative information with respect to Texas and Australia in his recent Report “The Tragedy of Planning” launched mid August by the Federal Treasurer Hon Peter Costello.
You will no doubt be aware of the recent public statements by Prime Minister Howard and the retiring Governor of the Reserve Bank of Australia Ian Macfarlane. The three have sheeted the blame for the housing affordability crisis on strangled land supply. There is currently much progress at States level, as this “core problem” is being increasingly recognised.
Our current build rate is in the order of 6 and bounced around 5 and lower through much of the 1990’s – well below where it should have been in to 7 to 9 range. With the current population, our annual build rates should move between 28,000 to 36,000 residential units per annum. Currently it is around 24,000 and falling. Through much of the 1990’s annual residential unit construction was approximately 20,000 with a very low point of 12,000 through the early part of the 1980’s. The high point for New Zealand was 1975, when 35,000 residential units were put in place (40,000 consents that year) – with a build rate I guess of about 12 per 1000.
Approximately 1% or 14,000 of our housing stock should be demolished each year and replaced with good quality stock. This hasn’t been happening of course, as it only takes simple observation to know that most of our housing stock is of inferior quality with, for example, extremely poor thermal standards.
Regrettably, due to artificially inflated urban land prices – even our new housing stock is of an inferior standard. In general terms “development ratios” should be in the order of 1:4 where around 25% goes towards the land, with the balance to construction. Due to the inflated land costs it is now 1:1 where around 50% goes to land and the balance construction.
NEW ZEALAND HAS ABUNDANT LAND
The huge volume of reputable international research on this issue identifies land supply strangulation as the core problem. Although planners have convinced themselves that we are “running out of land” – the reality is the opposite of course. Well less than 1.4% of our land area is urbanised and the writers research (as outlined in recent communications to the Housing Minister and CHRANZ) is that we would at best only require an additional one hundredth of one percent of our land area each year for urban development. Is it really an issue if we urbanise say 2 to 3% of New Zealand? Of course it’s not even an issue.
The UN population projections suggest that the world population is likely to go in to decline soon after 2050. As we all know the global battle for labour is growing in intensity each year.
THE URGENT NEED TO START UNRAVELLING THE MESS
Put rather simply – we have spent around 20 years creating this mess – and I would suggest – we spend the next 10 years unravelling it. Sadly many young people today on moderate and low incomes will be denied homeownership with this approach. Local Government and the NZ Planning Institute need to recognise the great harm that has been done to these young people’s lives and most importantly, clearly understand that they have a public duty to assist in “righting this wrong”.
The reality however is that this “mess” cannot be unravelled any more quickly, without creating further disruption and hardship. It must be done in a measured and responsible way to allow time for people to adjust and I have suggested to the Minister of Housing that Local Authorities be required to meet Housing Affordability Targets on a phased basis over a ten year period. This idea is very much a “copy” of the “Social Sustainability Goals” Ken Bone of the NSW Department for Housing is urging Local Authorities to put in place in that State.
NEED FOR IMPARTIAL AND RIGOROUS TRAINING OF REGULATORS
The other key idea I am very keen to see followed up on is with respect to education where “Land Use Law Schools” are set up between our current Economics Schools and Law Schools of our tertiary institutions – with a focus on “rigor” and “impartiality”. Again, this issue is covered within my recent communications with the Minister and CHRANZ. It is to be hoped that the issue will be discussed further at the Annual Resource Management Law Association Conference “Pathways to Sustainability” to be held in Auckland 5 to 7 October, where the co author of the Demographia Survey, Wendell Cox is a keynote speaker. The Local Government Housing Affordability Summit is to be held in Wellington 30 October and information with respect to this event, is to be released this week. The Housing Minister will be a key speaker.
It would be much appreciated Dr Bollard if the Reserve Bank could further research this issue and where appropriate, explore aspects of it by employing the approaches as outlined within the early part of this letter.
There is an urgent need for a Demographia type median multiple survey of all our Local Authority and urban areas so that we have a better understanding of the degrees of housing stress within individual communities. Mr Terrence Aschoff, Manager of CHRANZ has been most helpful in this regard and intends to put the idea forward for “serious consideration” within the 2007/8 budget year process. However – we really do need this survey to get underway as soon as possible and would be grateful if the Reserve Bank could consider assisting CHRANZ with respect to the funding for this work. This should be a small, low cost project.
With regard to the Annual Demographia Survey, we assemble the end of September data of all the countries surveyed. This information is generally available by early to mid December of each year. It would be most helpful if a New Zealand “median multiple” survey could be released at the same time late January at the time of the Demographia Survey release.
Once again, many thanks for the valued research work you and the people at the Reserve Bank are doing, by assisting us all in moving this issue forward. I am particularly heartened by the commitment and leadership of Hon Chris Carter, our Housing Minister and the constructive contributions the other political parties I am dealing with are making with respect to this issue too. Particular mention must be made of the Local Government leaders such as Mayor Bob Harvey of Waitakere and Mayor Barry Curtis of Manukau. I am also most impressed with the commitment by CHRANZ and their consultants from Motu and DTZ as well.
Co author – Demographia International Housing Affordability Survey