Debunking housing myths

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http://www.news.com.au/couriermail/story/0,23739,24043852-5015825,00.html

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By Ed Shann July 19, 2008 10:45am

Economist says house prices can and will fall
The number of unsold houses on the market is rising
International markets have already seen sharp price drops

THERE are two housing myths worth debunking. The first is that house prices never fall. The second is that because underlying demand currently exceeds new supply, house prices will keep rising.

Neither is true, Australian house prices can and will fall.

US house price falls of 15.3 per cent over the past year get most publicity, but Irish and British house prices are also falling sharply.

Ireland is down 9.5 per cent and Britain 8.7 per cent. Forecasters predict falls of 30 per cent in US and British house prices and 15 per cent in Ireland.

New housing starts have halved in Ireland and dropped about 30 per cent in the US and Britain.

ANZ economists claimed recently that Australian house prices have never fallen and there is no reason why they will. They are not historians. The house price series they use only starts in the mid-1960s.

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NEWS.com.au, 9 Jul 2008 Nigel Stapledon from UNSW has published house price data back to 1880 showing Australian house prices fell sharply several times.

You may think house prices never fall because you have never experienced them. However, Australian house prices have fallen previously and house prices are falling overseas.

Of course that does not necessarily mean Australian house prices will fall now, but there is no law of nature that says they cannot fall.

The optimists argue that underlying annual demand for Australian housing is 180,000 units and new starts are only 150,000. They conclude that house prices are likely to rise.

However, underlying demand is a theoretical concept using long-run trends in population growth and household formation. In practice, high house prices mean kids stay home longer, rather than buy new housing and students rent houses together rather than separately.

Actual demand for new houses is currently below underlying demand.

The house price surge was largely due to people bidding up prices of existing housing as interest rates fell and they could access funds more easily.

The rise in interest rates and tightening credit standards reverses the incentive to trade up to better housing. Home loan approvals have dropped 23 per cent in four months, so demand is falling and rates are still rising.

The number of new houses built does not determine supply. About 10 per cent of houses, or over 800,000 houses, are vacant at any time,  for example  holiday houses.

Financial pressures push empty houses onto the market. Lower clearance rates mean the number of unsold houses is rising. Supply will rise further as share prices fall and unemployment rises, forcing sales of existing houses.

Australia has rapid population growth and mining is boosting income growth. We did not have the large influx of new low-income house buyers that more lax US credit standards allowed. So while house prices may not fall as sharply here as overseas, they will still fall.

Investors renting out houses will be squeezed by rising rates and realise capital losses are possible.

Rents will rise and house prices fall until housing returns are comparable with other assets.

That will improve housing affordability for first-home buyers and eventually stimulate the next upturn.

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