“Kiwis Pay Price For ‘Cullen Housing Bubble’”

Hugh Pavletich FDIA
Co author
Annual Demographia International Housing Affordability Survey
DEMOGRAPHIA
Christchurch
New Zealand

October 6, 2008

The Pre-Election Economic & Fiscal Update 2008 - The Treasury - New Zealand released today with the
statement by the Minister of Finance, Hon Dr Michael Cullen, have expressed “surprise” at the rapidly deteriorating economic situation New Zealand now faces and incorrectly attribute the “blame” for this on global events.

The reality is that New Zealand has experienced a “phony boom” this decade – in large measure powered by a housing bubble.

As with all bubbles – this one is simply collapsing.

The New Zealand Government and Finance Minister Hon Dr Michael Cullen, the Reserve Bank Governor Dr Alan Bollard, with the Treasury, should have been aware of this “housing bubble” and the risks it posed to the small New Zealand economy.

Regrettably – the Governor of the New Zealand Reserve Bank, Dr Alan Bollard became a “housing bubble chaser” - simply raising the Official Cash Rate (OCR) as the bubble inflated and lowering it as the bubble deflated – achieving nothing – other than adversely impacting the rest of the economy.

The reality is that monetary policy is an inappropriate tool with respect to housing bubbles – which are caused by constrained land supply and inappropriate infrastructure financing at local government level.

The New Zealand Treasury staff poor understanding of these issues was illustrated at the Parliaments Commerce Committee Housing Affordability Inquiry – where within a communication dated March 12, 2007 to the Committee, the Deputy Secretary to the Treasury, Mr Peter Mersi wrote –

“Unfortunately, however, the House Prices Unit has not been able to establish objectively, from the data and research that is readily available, whether there is an adequate supply of land that is either ready or close to being ready for development, or whether blockages in the land supply pipeline are contributing to the price increases. The report considers that these questions warrant further investigation.”

The only thing “warranted” are wholesale firings of Treasury staff – if this is an example of the quality of advice provided by this organization to the Government and the public that pays for it.

Instead they chose to ignore – or sadly - likely failed to understand – the serious consequences of allowing a housing bubble to get underway. A case of being “schooled” in economics, but not actually “educated” in the field with practical market experience.

As Oscar Wilde said “Never let your schooling interfere with your education”.

New Zealanders will now be forced to bear the costs and consequences of this unnecessary bubble collapsing and learn the hard way to get sound public policies and competent public officials in place, to ensure they don’t happen again.

To illustrate how “small” New Zealand’s economy is – it is around the size of the city of Pittsburgh, USA or the State of Iowa – and a third the size of the cities of Houston or Dallas Fort Worth, Texas (refer US Department of Commerce U.S. Bureau of Economic Analysis (BEA) - bea.gov Home Page).

When the New Zealand Labour Government assumed office November 1999, according to Real Estate Institute of New Zealand (REINZ) Market Trend Data, the median price for a New Zealand home was $NZ172,000 or slightly above three times gross annual household income. Monthly transactions were around 5000 to 6000 units with a Total Dollar Volume of $NZ1 billion each month.

At the peak of the housing bubble May 2007 - median house prices had reached around $NZ349,000, some 6.3 times annual household earnings with 10,989 units transacted for the month and a Total Dollar Volume of $NZ4.534 billion.

By August 2008 as the bubble was deflating, median house prices had eased to $NZ330,000, with 4,220 units transacted and a Total Dollar Volume of $1.649 billion for the month.

As this bubble continues to deflate – it is likely well in excess of $NZ250 billion of “bubble value” of the 1.6 million unit ($NZ620 billion of inflated value) New Zealand housing stock, will be wiped out of the market.

And understandably – Statistics New Zealand August 2008 Building Consents Report “Housing Consents continue to fall” released September 30, 2008, indicates that New Zealand housing construction has now fallen from a “bubble peak” of 33,000 units per annum (build rate 7.8 per 1000 population) to around 16,000 (build rate 3.72 per 1000 population).

It is to be hoped that New Zealand residential construction does not collapse to the British and Californian levels of 1.8 per 1000 population – some 7,740 units annually.

As with the artificial “housing bubble” – the heightened housing construction activity, was largely driven off the artificial equity of existing home owners, with bubble banking lending, leveraging their way (with speculators) in to new housing.

Virtually no new affordable housing was created through this period of “fake prosperity”. The young and the poor were simply ignored and priced out of the market.

According to the New Zealand Reserve Bank household debt was 100% of net household disposable incomes in 1999 and had ballooned out to 160% at the peak of the bubble. This will likely ease now as this unnecessary bubble deflates.

DataQuick reports that as the California housing market prices have collapsed by 40% in the past year – new mortgages monthly payments have dropped from $US2,300 to $US1,500 per month – and will continue to drop – increasingly allowing the poor and young to access home ownership.

Kiwi households are carrying approximately $NZ60 billion of unnecessary household “bubble debt”.

Due to Government at all levels failing to ensure sufficient affordable land supply so that a bubble didn’t get traction, Kiwis were encouraged to “flick” houses amoungst themselves, fueled in large measure by copious quantities of off shore debt. This in turn degraded the performance of the residential construction industry, as explained in Scoop: Urban Planning Degrades Housing Productivity.

This artificial housing bubble generated excessive taxes, allowing the Government through these nine years to expand expenditure massively to 42.3% of the economy, in comparison with 34% for Australia, according to the OECD July 2008 Report.

Regrettably – the current New Zealand Government with its Finance Minister Hon Dr Michael Cullen, the Reserve Bank and Treasury, chose to follow the “California model” with respect to economic governance and management.

New Zealanders can look forward to what California is currently experiencing (explained within Scoop: The California Housing Fiasco, Scoop: Housing Affordability – The Shift To Reality, Scoop: Housing: Taking A Bubble Bath To Reality and Scoop: Housing: The Disaster Zone Of California).

Instead – Governments that cared and acted responsibly with public policies in place to ensure that “housing bubbles” did not get underway – have had a “boom” instead.

An example of this is the State of Texas with a population of 24 million people – where house prices have stayed at 2.5 times household income through this period (in contrast to the 6.0 to 8.0 times in New Zealand’s case), as these Dallas Federal Reserve Reports illustrate - Neither Boom nor Bust and Texas Housing: A boom with no bubble.

Going forward – the focus will need to be on “performance” – at all levels of Government.

With respect to land use and urban governance – the paper Getting performance urban planning in place (United States version Planetizen The Housing Bubble: The Planner's Role and Lessons Learned | Planetizen - additionally Houston Business Journal Affordable housing no accident in Houston - Houston Business Journal: - 20 reprints nationally) has been prepared to assist in exploring solutions to these issues.

It is clear too – that there is an urgent need for the training and retraining of economists, urban planners and property appraisers / valuers in the field of “structural urban economics” – as the quality of advice from these professions with respect to these issues has been unsatisfactory – as explained within Scoop: Understanding Housing Bubbles and Scoop: Bank Economists At Sea On Housing.

ENDS

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