The Australian Economic Review, vol. 41, no. 2, pp. 194 9 Policy Forum: Housing Affordability: What Are the Policy Issues? Housing Affordability Crisis: Fact or Fiction? Chris Lamont Housing Industry Association 1. Introduction Housing affordability was the headline issue in 2007 and with interest rates and house prices again on the rise and demand for housing clearly outstripping supply, there is unlikely to be a significant improvement in the short term. This paper sets out some perspectives on the issue and provides some suggested policy responses. 2. Trends in Affordability Indicators The latest report from the Commonwealth Bank and the Housing Industry Association (HIA) shows that housing affordability fell by 1.7 per cent in the December 2007 quarter, reflecting an interest rate rise in November and double digit growth in established house prices over the quarter. The index measures average household disposable income divided by the minimum household disposable income required to purchase the typical first home. Housing affordability conditions in the December quarter were the lowest since the series began in 1984. Today, one in every two first homebuyers faces mortgage stress and the house price to income ratio is now approaching 9.1 compared with 5.3 in 1997 (Figure 1). 1 The decline in housing affordability, once considered part of a cyclical trend that would correct itself over time, appears to have become a full-blown epidemic that is here to stay. However, not all are worried. The Reserve Bank of Australia (RBA) paints a very rosy picture of housing affordability by focusing on macroeconomic aggregates. The RBA states that overall, one in three households owns their own home outright and most homebuyers purchased their homes prior to the house price boom and recent interest rate rises. Other groups point to rising real wages and consider the issue against the backdrop of the significant percentage of Australians who already own their own home. An aggregate assessment of incomes and of housing ownership has some declaring that the decline in housing affordability is a beat up. However, like so many challenging issues in modern society the decline in housing affordability requires a more detailed examination. This assessment quite appropriately divides those Australians who benefit, from those who suffer from the seeming rise and rise of house prices. 2.1 What Did the 2006 Census Tell Us? There is only one such assessment that provides a sufficient sample size (20 061 646 people) and the necessary detail to assess the number and magnitude of financial pressure on the victims of the decline in housing affordability. This assessment can rightly be considered independent and follows a series completed routinely every five years since 1905. The United Nations regards a national census as one of the primary sources of information for planning effective development, as well as monitoring population issues and socioeconomic and environmental trends and policies. The 2006 Australian Census provides information with respect to housing clearly identifying that while Australia as a nation is wealthier than ever before, there is a growing Published by Blackwell Publishing Asia Pty Ltd
Lamont: Housing Affordability Crisis: Fact or Fiction? 195 Figure 1 Interest Rates and House Price/Income Multiples, Australia Multiple 10 9 8 7 6 5 5.3 Per cent 30 8.7 Price/income multiple 25 20 15 4 3 4.1 4.3 10 2 1 0 Mortgage interest rate 5 0 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year Sources: CBA,ABS,RBA,HIA. divide between housing haves and housing battlers. Housing stress, as defined by the Australian Bureau of Statistics, is where a household is committing 30 per cent or more of gross income on either mortgage or rental payments. This is a measure accepted by the housing industry but is in no way created or invented by the industry. Using the ABS classification of housing stress, the census provides a concerning assessment of its incidence. It confirmed that 90 per cent of the 1.1 million households in housing stress earn less than $75 000 per annum. 2 These households are not racking up debt on their principal place of residence to fund other investments. While some have suggested this may be the case, the proposition is ludicrous as it ignores the fact that tax advantages are not accrued from holding debt in the family home. The census collected information on the contributions made from income to mortgage payments or rent; there is no ambiguity on this point. Therefore, suggestions that mortgage stress or rental stress arises from other outlays is simply incorrect. So who are the victims of the housing affordability crisis? According to the census it can be broken into the following groups: couples with dependents, lone persons, couples with nondependent children and single-parent families. At the time of the census more than 550 000 households were in mortgage stress. HIA modelling suggests this figure has grown to 650 000 on account of five interest rate rises forcing more people into the category. Rental stress is a far more severe problem, with one in three private renting households (520 000 households Census 2006) facing rental stress. The number of households in the private rental market facing severe rental stress continues to grow and HIA modelling again suggests that a further 70 000 households have entered rental stress since the completion of the 2006 Census. The national average purchase price for a first-time homebuyer in 2006 was $295 000. This princely sum certainly doesn t buy a M c Mansion. Of the total number of first homebuyers entering the market, less than 20 per cent purchase a new home. The overwhelming majority of first homebuyers are looking to buy the cheapest house, unit or flat they can get their hands on. In terms of expectations, most are seeking
196 The Australian Economic Review June 2008 accommodation within 20 kilometres of work and with reasonable amenity and surrounding support services. These requests are hardly unreasonable in today s society; however, Generation X is labelled as unreasonable and accused of expecting the spoils upfront. This is an interesting criticism, especially when we consider that this is a generation that is paying more tax (on average) than its predecessors, is working longer hours, operating in a userpays economy and funding not only its own retirement but those of previous generations as well. 3. Policy Implications Demand is racing ahead of the supply of new housing. Growth in household formation, rising incomes and a very strong immigration program are in themselves adding strength to the demand. New dwellings add less than two per cent to the total housing stock each year. 3 This means that demand for housing is effectively focused on existing stock and thus an upward price churn exists. Suggestions by some sections of the media in 2007 that rises in official interest rates would slow house price growth have not been realised. Increases in rates are putting the brakes on new building activity which is only serving to worsen existing housing shortages. 3.1 Monetary Policy Monetary policy in the short term is a significant threat to housing affordability. Furthermore, the appropriateness of clinging to a three per cent inflation target in a full employment economy with significant cost push drivers should be questioned. An assessment of the Consumer Price Index confirms that inflationary pressures are coming from essential household consumption. Rising rents in themselves are contributing significantly, as are other housing expenses. Raising interest rates will only further increase these pressures given deficiencies in supply. 3.2 Development Contributions Development contributions for new residential development levied by local and state governments are certainly having a significant effect in both raising new house/unit prices and consequently skewing the type of development. Faced with significant development contributions, statutory charges and a raft of other taxes, builders and developers are simply unable to get a basic entry-level new residential product on the market that the average first homebuyer can afford. This means that an increasing proportion of all new homes and units built in Australia are for the trade-up purchaser. The costs referred to above in some areas of Australia now add up to $150 000 to the price of a home, compared with less than $50 000 a decade ago. 4 Assuming the purchasing capacity of a first homebuyer is $350 000, a developer or builder is faced with a rather daunting task: how do they purchase raw land and build a new home for less than $200 000? In many instances this is simply not possible and a number of builders and developers seek to produce a housing product aimed at the upper end of the market. Home ownership rates arguably also tell an important story. The census data shows that the home ownership rate (purchasers and outright owners) among the 25- to 34-year-old age group has fallen from 61 per cent in 1981 to less than 48 per cent in 2006. Despite significant growth in labour force participation, particularly in respect to female workforce participation, rising from 43.5 per cent in 1978 to 57.6 per cent in early 2008, housing affordability for couples and families has declined. 3.3 What Should the Commonwealth Government Do? There is a range of measures available to the Commonwealth Government to address declining housing affordability. Fundamentally, however, sustainable and long-term restoration of housing affordability involves reform to Commonwealth State financial relations, now long overdue. A reformed tax distribution
Lamont: Housing Affordability Crisis: Fact or Fiction? 197 system is likely to involve the states and territories receiving a percentage of income tax revenue directly. It is a long-standing principle that the level of government providing a service or function should also have direct responsibility for the expenditure of tax revenues. The complicated distribution of GST revenues and Commonwealth Special Purpose Payments has resulted in considerable inequity and inefficiency between the three tiers of government. A revised income tax distribution model would ensure that equity is restored to the allocation of tax revenue. Such a model may see income tax revenue apportioned on the basis of labour force participation, population and economic growth. Under such arrangements state and local governments would receive income tax revenue for successfully completed functions or projects delivered. Current arrangements often involve financial supplementation in a range of areas with little and in some instances no, measurement of performance or accountability for investment in infrastructure, or any obligation to improve service delivery. 3.3.1 Direct Commonwealth Support for Infrastructure There is clearly a need for the Federal Government to meet what is a growing requirement for community and economic urban infrastructure. Without this assistance the reliance of state and local government on taxes and other charges on residential property will continue. Commonwealth Payments to the states as per the existing Commonwealth arrangement under untied Special Purpose Payments do not provide an effective solution. There is a need for innovation in the provision of urban infrastructure matched by planning and red tape reduction in the home building and development areas. While some local and state government planning agencies have extremely efficient systems and processes, there are also some shockers. Case studies taken from surveys of HIA major builders and developer members, together with assessments of the duration of development applications, confirm that unnecessary delays due to convoluted and complex planning systems are constraining supply and adding tens of thousands of dollars to the price of a new dwelling. These costs are totally unnecessary. They do not arise because of an objection to a particular development or because of some complicated environmental consideration, but purely due to inefficiencies in process. The cost of the community and social infrastructure required for new residential development should not be exclusively borne by new homebuyers. There is a need to review the role of government in delivering the building blocks of modern communities. Private citizens, new homebuyers and governments at all levels should share these responsibilities. In addition, local and state government should streamline planning processes and ensure that an adequate land supply program complements state government strategic plans. A Residential Infrastructure Fund should tie Federal Government funding to the ability of local and state governments to fast track land release, improve efficiencies and commit to initiatives to cut red tape. Funding should be competitively assessed and merit based; political pork-barrelling has a long history of aiding and abetting corruption and inefficiency rather then promoting lasting benefits. This proposal recognises that a vertical fiscal imbalance in Commonwealth State relations is real and that a bridge to equity involves a version of competition payments. Promoting a savings culture, particularly in the current environment, is essential. The incidence of 100-plus per cent mortgages is far too common. Household debt has grown at unsustainable levels and, as a consequence, increases in interest rates and the cost of living are placing extraordinary hardship on a new group of Australians. Linking rewards for saving to home ownership is a practical way of developing a savings culture, reducing inflationary pressure and curbing reliance on 100 per cent loans. 3.3.2 A New Approach: First Home Savers Accounts Deposits in First Home Saver Accounts will provide an invaluable leading indicator of planned house purchasers and, if used correctly,
198 The Australian Economic Review June 2008 could assist the industry, as well as state and local governments, to plan for new construction and associated infrastructure requirements. These accounts will not in themselves arrest the decline in housing affordability. What they will do is assist future homebuyers with a basic understanding of how to save and aid in curbing the blowout in debt as the only means of entering home ownership. Sufficient warning of consumer demand would allow the housing industry to plan additional supply and thus avoid price pressures on existing housing stock arising from an increase in demand. Unlike the First Home Owners Grant, First Home Saver Accounts reward sweat equity. Aspiring first homebuyers will have committed to a savings plan and have a worthwhile deposit. Sufficient warning of consumer demand would allow the housing industry to plan additional supply and therefore avoid price pressures on existing housing stock arising from a potential increase in demand from first homebuyers. 3.3.3 Skill Shortages in the Construction Industry The residential construction industry is more vulnerable to the skill shortages prevailing in the Australian labour market than other industry sectors due to an ageing employment base and considerable unmet demand for housing. Skilled immigration and a higher intake of migrants was meant to address skills shortages but in many respects the failure to effectively target and entice skilled migrants from a building and construction background has exacerbated skill shortages. Australia currently has a migration program the composition of which includes international students, skilled migrants, temporary and permanent migrants. The total equates to 250 000 260 000 migrants in 2006 07, 50 per cent of whom were students. 5 Unfortunately, Australia has only been successfully attracting approximately 2500 migrants (annually) who have construction trade skills. Around one third of this number takes up work in residential construction. Clearly, there is a need to examine in more detail measures that target the skills sets in which Australia is experiencing shortages. Skilled migration should be delivered to ensure that economic production across sectors experiencing capacity constraints is enhanced. On HIA modelling, the residential construction industry requires an additional 20 000 skilled tradespeople before 2010 to meet projected demand. Given the age profile of the existing labour force and the underlying demand for housing, neither graduations from apprenticeships nor the current skilled migration program will address adequately shortages in the residential building industry. Specialist trades contribute 40 per cent to the cost of a new home (HIA member data). Efforts to increase the availability of skilled trades would play a vital part in ameliorating new house price pressures and improving supply. 3.3.4 Measures to Increase the Supply of Rental Housing There is also an urgent requirement to increase private investment in affordable rentals. Clearly, yields of four and five per cent have not been sufficient to sustain investors and in volume terms there has been a significant reduction in investment in residential property since the early 2000s. High transaction taxes, low yields and holding taxes have certainly dampened investor interest. Notwithstanding this cooling in interest, there are those who call for the abolition of negative gearing for investors. The effect of implementing such a suggestion would certainly kill any hope of increasing housing supply and send growth in rents closer to 20 per cent per annum. If negative gearing is the investment bonanza that some suggest, why has investment declined, despite record low vacancy rates in the private rental market? Negative gearing is available to all investors for any investment so it seems remarkable that despite extraordinary high transaction and other holding taxes some continue to trumpet their opposition to the availability of negative gearing on property. Perhaps there should be a discussion on what effect negative gearing has on the value of the Australian stock market.
Lamont: Housing Affordability Crisis: Fact or Fiction? 199 The National Affordable Rental Scheme as proposed by the new Federal Government is a financial incentive package to attract private investment into affordable rental housing for lower income households, especially from large investors. The scheme involves providing developers, investors or landlords with a financial incentive of a specified annual value (per dwelling) sufficient to attract investment in designated types of housing. The success of this scheme is predicated on increasing the supply of new affordable residential dwellings and therefore should only apply to investment that increases the volume of Australia s existing housing stock. For the tenant the scheme offers some assurances that rents will remain below market rates and an increase in availability of what is becoming a rare commodity, affordable housing. 4. Conclusion Improving housing affordability does not have a quick fix. More than 20 years of policy and investment neglect by governments have left the supply of Australia s housing stock bare. Governments at all levels are now making noises; however, there is an urgent need to invest in measures that increase the supply of affordable housing. These measures are going to necessarily involve stripping out the exorbitant fixed and statutory costs imposed on housing. There are some positive commitments in this space, but implementation has yet to take effect so definitive conclusions cannot yet be made regarding their effectiveness. The old cliché holds true only time will tell. But it is certainly pleasing that there is now a majority of policy makers committed to action aimed at correcting the decline in affordability. February 2008 Endnotes 1. House prices based on unpublished Commonwealth Bank of Australia house price series. Income is based on total earnings. Mortgage interest rate refers to the RBA s estimate of the banks standard variable rate averaged over the year. Estimates of mortgage stress are prepared by HIA based on the ABS definition with an adjustment for recent interest rate rises. 2. All Census data in Sections 2 and 3 are taken from customised tables prepared for HIA by ABS. 3. HIA calculation based on ABS Census customised tables. 4. Estimates prepared by HIA from internal data. 5. The data in this paragraph about the number and work destination of skilled migrants is taken from Department of Immigration and Citizenship Immigration Update 2006 2007. References Commonwealth Bank and Housing Industry Association 2007, Affordability Report. Department of Immigration and Citizenship 2008, Immigration Update 2006 2007.