Australia’s house price slide prompts worries about economy

Financial Times10 January 2019

Jamie Smyth in Brisbane

Free iPads, rental guarantees and an eye-watering A$100,000 ($72,000) off the price of an apartment are some of the sweeteners on offer from property developers amid the worst housing downturn in Australia for 35 years.

National house prices fell 1.3 per cent in December, the largest monthly fall since 1983, which resulted in an annual decline of 6.1 per cent last year. Prices in Sydney, the country’s biggest property market, are down 11.1 per cent from their peak, according to Morgan Stanley, which warned this week the slump could torpedo Australia’s run of 27 years without a recession — a modern global record.

“We think the steep downturn in house prices exposes Australia to the risk of recession, particularly in the context of an exogenous shock such as slowdown in Chinese growth,” said Daniel Blake, lead author of the Morgan Stanley report.

“Our models show that Australian households are most exposed of any G10 country to a housing slump and face a period of deleveraging, leaving growth heavily reliant on public spending on health, education and infrastructure.”

The slump in prices marks the end of a five-year expansion that saw prices in Sydney rise by 70 per cent and household debt surge above 120 per cent of gross domestic product — one of the highest levels in the developed world. The correction coincides with price declines in many overseas markets as central banks begin to unwind record-low interest rates and fears mount over a slowdown in global growth.

Australian regulators have welcomed the moderation in prices, which they have encouraged by imposing lending restrictions on banks aimed at cooling a market buoyed by record-low interest rates of 1.5 per cent. They hope to engineer a soft landing at a time when economic conditions are healthy with unemployment at 5.1 per cent and the proportion of mortgages more than 30 days in arrears at a modest 1.5 per cent.

But the pace of the price declines and signs that some property developers are in distress are prompting fears of a credit crunch as banks clamp down on poor lending practices highlighted by a national inquiry into the sector.

Last month Philip Lowe, governor of the Reserve Bank of Australia, privately warned the heads of the country’s big four banks to ensure they keep credit flowing to households and small businesses to avoid damaging the economy. From January 1 Australia’s prudential regulator APRA removed restrictions on interest-only mortgage lending to get credit flowing again to investors and owner occupiers.

“The crisis [global financial crisis in 2008] very much demonstrated the critical importance of keeping the lending flowing,” said Guy Debelle, RBA deputy governor, in a recent speech.

“The lesson is that countries that did that, fared better than countries that didn’t. The lesson is relevant to the situation today in Australia where there is a risk that a reduced appetite to lend will overly curtail borrowing with consequent effects for the Australian economy.”

Economists warn Australia is vulnerable to a housing downturn as heavily indebted mortgage holders are likely to cut spending when they see the value of their most valuable asset fall and housing construction activity — a key contributor to growth over recent years — slows in the face of weaker returns.

The Australian economy slowed sharply in the three months to the end of September to 0.3 per cent growth over the previous quarter, which was half the rate forecast by economists, due mainly to a slowdown in consumer spending. This dragged down annual growth from 3.4 per cent to 2.8 per cent.

Shane Oliver, economist at AMP, predicts house prices in Sydney and Melbourne will fall 20 per cent below their peaks due to a “perfect storm” of factors including: poor affordability; tight credit; a surge in supply of apartments; a collapse in foreign demand; and proposed cuts to tax breaks for housing investors. Taken together these could detract 1 to 1.2 percentage points from growth this year, he says.

This outcome would not likely tip Australia into recession in 2019 with AMP forecasting annual growth of 2.5-3 per cent. But it is below central bank forecasts of 3.25 to 3.5 per cent growth and could undo government plans to return the budget to surplus in 2019-20, which is an election year. It would also leave Australia exposed to any global shock sparked by an economic slowdown in China or the trade war between Washington and Beijing.

Evidence of the economic impact of the housing slowdown is growing with Tamawood, an ASX-listed homebuilder, warning on Monday that the problems in the residential housing market would cut its first-half 2019 profits by 27 per cent. Building approvals fell by a third in the 12 months to the end of November, compared to the prior year, amid concerns of oversupply and tighter credit conditions.

Developers are increasingly offering incentives to tempt buyers, amid weakening sales that have caused the volume of property listings to jump by a quarter in Melbourne and 16.5 per cent in Sydney over the past year, according to data SQM Research.

But even the promise of discounts worth up to A$100,000 each on 10 luxury apartments offered for sale in Melbourne at A$1m-A$1.5m last month by Caydon Property Group failed to attract a buyer last month, highlighting the challenging conditions.

Pete Wargent, co-founder of AllenWargent, a property advisory service, says the near-term economic outlook is reasonably robust in spite of the property slowdown. But he warns the slowdown in transactions and deterioration in forward-looking indicators, such as money growth and building approvals, may spell trouble ahead.

“If the credit taps remain too tight for too long there’s a real risk that things could get messy this year,” said Mr Wargent.