Bouncy castle deflating
The 8% fall in housing prices is probably the half way mark of the housing market’s predicted 15% fall by ANZ Bank.
Monday, August 29th 2022, 5:55PM
by Sally Lindsay
The bank’s latest Property Focus says prices are down a bit more, the data suggest there are further declines to come, and there is no convincing signal prices are finding a floor.
ANZ chief economist Sharon Zollner does expect some form of floor given the tight labour market and robust household income growth. “However, at this stage it’s fair to say the floor is more like that of a deflated bouncy castle than solid concrete.”
She says the risks around net migration also feel skewed to the downside, a potential negative for housing demand. And hard-landing risks for the broader economy remain highly pertinent. “Even 8% off their peak, house prices remain highly vulnerable should we see a sharp rise in unemployment.”
Reflection
She says it is a good time to reflect on the risks around the housing outlook.
“Ups and downs in the housing market are in practice a big part of how monetary policy works in New Zealand – not the Reserve Bank’s choice, but rather a function of the proportion of their wealth kiwis hold in housing, which is for a whole bunch of reasons, not least tax policy,” says Zollner.
“In that context, housing will possibly be one of the earliest barometers of whether the RBNZ is actually doing enough to squeeze households and get inflation down. If green shoots start emerging in housing before inflation is unambiguously on the right trajectory, the OCR will go higher, pronto.”
Zollner says given there is still talk about hard-landing risks, it might seem absurd to talk about the risk interest rates could end up going significantly higher than expected. “It would just be a continuation of existing trends. And the fact is, we’ve all got to get our heads around a reinflating economy and what that may mean for how restrictive a given interest rate is – and will remain – in practice.”
She says it also pays to remember the RBNZ keeps noting household balance sheets are “robust” to rising rates. “Based on our aggregated income and debt analysis (assuming 5% annual income growth in the forecast), our expectation for the OCR peaking at 4% will still leave households’ debt servicing burden well below pre-GFC levels.
With the RBNZ determined to cool the economy and squeeze out excesses, and the fundamental housing demand-supply balance having changed significantly over the past two years, real house prices relative to incomes are going to come down. A flurry of inflation and associated nominal wage inflation may well ease that transition (by meaning fewer people end up in negative equity than if nominal house prices did all the adjusting), but it won’t prevent it.
High risk
Perhaps the most dramatic risk to the housing outlook comes from downside employment risks. While the pace of income growth matters, if employment contracted sharply and significantly, it could really pack a punch for housing by forcing house sales (i.e. by households who can no longer service their mortgage).
In that world, it may not matter (immediately at least) what interest rates were doing. If a household has abruptly lost a large chunk of its income, it will struggle to service its debt even at ultra-low mortgage rates.
“In practice, then, the nutty level of house prices relative to incomes, rather than debt-servicing costs, is likely to be the weaker link in the chain as interest rates rise. But even there, higher nominal income growth is nibbling away at our severe unaffordability problem from the bottom at the same time falling house prices are nibbling away at the top – a silver lining to our inflation problem for sure, though obviously it would be better if we hadn’t ended up in this affordability corner in the first place.”
The bottom line
Zollner says house price falls could peter out if unexpectedly high nominal income growth makes today’s mortgage rates less intimidating.
“Mortgage rates are still negative in real terms, after all (i.e. they are lower than the rate of inflation). Any housing green shoots will be greeted by the RBNZ wielding broad-spectrum herbicide.
“The fact is, to beat inflation, the RBNZ needs to – and will – keep the squeeze on households and the housing market. That suggests upside for house prices is limited, particularly in real terms (i.e. deflated by the general level of prices).”
She says meanwhile, hard landing risks haven’t gone away; housing could easily deteriorate more than pencilled in, particularly if downside employment risks materialise. In that scenario (e.g. due to a global terms of trade shock like those that killed off the 1990s and 2000s business cycles), housing could see a very real correction.
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