Here’s a test of your understanding of market price movements. Prices for crypto currencies such as Bitcoin have soared in recent times. Do you think that means there is a shortage of these things, and all efforts should be made to ensure more are supplied?
Now, consider what you think about house prices. They have soared on average by 720% around New Zealand since 1992, with Auckland prices ahead 880%. All stops are being pulled out to boost house supply because people believe there is a housing shortage.
Soaring prices of a thing do not allow you to automatically conclude that there is a fundamental shortage reflecting market or policy failure. All they tell you is that over the relevant period of time more people have sought to buy a thing than have been willing to sell it.
People buy Bitcoin not because it has any intrinsic value. They buy it because they believe other people will buy it, because they take past price movement as a guide to future movements, and because they have missed out on making easy money and don’t want to miss out again.
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Data from Corelogic suggest to us that over the past 16 years 37% of house purchasers have not bought because of the intrinsic value of a house – namely as a roof over one’s head and a home for one’s family. They have bought because they believe other people will eventually buy the property, they expect past price rises to continue, they want a return, and especially these past 18 months don’t want to miss out. FOMO.
There is a shortage of social housing in New Zealand, and because of the investor and regulation-driven surge in house prices these past three decades there is also a shortage of affordable accommodation (price relative to income). But for the country as a whole, when I look at data showing a change in the number of people per household from 2.78 in 1991 to 2.82 in 2018, it is hard to conclude that there is a shortage sufficiently large to be confident ready buyers will be found if construction continues at current levels.
We can see justification for much of the construction surge to date if we think in terms of social housing, replacing outdated stock, and catching up after weak building post-GFC.
But investors are being redirected by tax changes towards other assets. Many will naturally ease off buying and boost selling to rebalance wealth portfolios which have become overly geared towards residential property. As these forces strengthen through 2022-23 population growth is likely to hold near the recent weak 0.6% annual rate as Kiwis go to Australia for higher wages, lower house prices and a cheaper cost of living. Also, people who have brought forward lifestyle changes in response to Covid-19 won’t now make the 2022-25 location shift, up- or downgrade which they were planning. They’ve done it already. Plus record low interest rates have gone and credit availability is the worst since the GFC.
As house price growth expectations ease and the recent decline of FOMO back to April 2020 levels continues, the strong belief that shortages exist everywhere will fade. This process might take much of 2022 in locations benefitting from an acceleration of Aucklanders retiring early up north and to the likes of Hawke’s Bay.
Tony Alexander: “All stops are being pulled out to boost house supply because people believe there is a housing shortage.” Photo / Fiona Goodall
Eventually, the loss of conviction that shortages exist everywhere will lead to an easing off of orders for new houses, presales will decline, and some of the many of thousands of people who have entered the construction sector these past three years will experience cash flow challenges.
Provided demand for our exports remains strong and inflation eases back next year, this coming correction in construction sector optimism and activity shouldn’t cause widespread woe. But should events conspire to produce weakness in labour demand come perhaps 2023-24, the sector will likely experience a substantial correction.
Ultimately, all I want to do with this column is deliver a warning to the newer operators in the house building sector, including the 25% of investors planning to grow their portfolio next year by undertaking their own development. Housing markets move in cycles with shortage talk dominating on the way up as FOMO rules regardless of the underlying fundamentals (like Bitcoin). Then, over-supply chat reigns supreme when FOMO ends. Prepare for sentiment eventually turning by paying very close attention to your reliance on presales and your assumption that the bank will carry you through the downward leg of the cycle come 2023-24. They will be most faithful to the long-established developers, less so the newbies.
- Tony Alexander is an economics commentator and former chief economist for BNZ. Additional commentary from him can be found at www.tonyalexander.nz
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