Housing affordability - Extract from my book Myth Busting Economics

Mon, 15 Jun 2015  |  

There is a lot of emotive codswallop being written and spoken about housing affordability and house prices at the moment, so I have included a brief extract from one of the chapters in my book, Myth Busting Economics.

Have a read and think about the current house price dynamics.

Oh, and if you want a copy of my book, click and pay here.

https://www.booktopia.com.au/myth-busting-economics-stephen-koukoulas/prod9780730321958.html 

Cheers, The Kouk

============================================
Extract from Myth Busting Economics

Think of housing affordability in this way.

In the mid to late 1980s, a house cost, say, $75 000 and required a mortgage of $60 000 — that is, a loan-to-valuation ratio of 80 per cent. Household incomes at this time were around $25000 per annum and interest rates were around 13.5 per cent. In these circumstances, it took around 20 to 25 per cent of a household’s after-tax income to make the monthly mortgage repayment. The other 75 per cent of disposable income could be spent as the householder wanted.

Fast forward to now. A house is around $625 000 and, based on a loan-to-valuation ratio of 80 per cent, the mortgage would be around $500000. Household disposable income is around $125000 per annum and the interest rate is 5.25 per cent (although the increased competition now compared with the 1980s means that not many people pay this advertised rate). In these circumstances, it takes around 20 to 25 per cent of a household’s after-tax income to make the monthly repayments.

While house prices are up, so too are household incomes and, critically, interest rates are structurally down.

This shows, quite starkly, that it is no tougher financially for a first- home buyer today to service an average mortgage on an average house than it was 20 or 30 years ago. It is just that in the so-called good old days, the average home buyer’s mortgage pain came through interest rates and not the house price. Now, the pain comes through the house price and not interest rates and, I suspect, expectations being skewed to buying above-average houses.

Looking at it another way, monthly repayments are much the same on a $400 000 mortgage with an interest rate at 5.25 per cent as they are on a $300 000 mortgage with an interest rate of 8 per cent.

As a homeowner with a mortgage, what would you prefer? The joy of buying a house at a low price, with a relatively low mortgage, but having to pay a high interest rate, or taking out a large mortgage on an expensive house but having a low interest rate to service that loan?

Any prospective home buyer should be largely indifferent to these dynamics. Those wanting lower house prices, beware! It might come at the cost of higher interest rates, which would do little or nothing to help affordability.

Think of it this way. House prices could undoubtedly fall to make them more affordable, and a return to 8 per cent interest rates would no doubt help achieve that. Imagine paying a 13.5 per cent mortgage interest rate (as paid in the 1980s) right now. Obviously, if that were ever to occur again, a first-home buyer’s delight in getting a cheaper house and therefore borrowing less would, by definition, be neutralised by the pain of higher interest rates.

For those bemoaning high house prices now by stressing the lack of affordability, go to one of those very good mortgage calculators that are so common on the internet. Plug 10 per cent, 13.5 per cent or even the 1990s peak of 17 per cent into the ‘interest rate’ box and see how much you could afford to borrow today. The exercise should change those perceptions of poor housing affordability in recent years.

I am not sorry for going on about this — it is a vital point to make. It is a roundabout way of saying that it has never been easy to get into the housing market for the first time or to upgrade to a nicer house, but it is no harder now than it was in the past. It is just that the dynamics and the mix are different.

What has not changed is that sacrifices need to be made to get your foot in the door of the property market.

comments powered by Disqus

THE LATEST FROM THE KOUK

Politics Panel: Australia's intergenerational gap

Fri, 25 May 2018

I was one of the panel members of this podcast which was on ABC Radio National. 25 minutes of interesting discussion.

At this link: https://www.abc.net.au/radionational/programs/breakfast/politics-panel-australias-intergenerational-gap/9798848 

Politics Panel: Australia's intergenerational gap

 With the federal budget handed down and the battle lines emerging for the next election, Australia's intergenerational gap is shaping up as a major political issue.

The Coalition is promising a host of sweeteners for retired voters while Labor is promising to pump more money into education and get housing prices down.
If you're a voter, there's a good chance your view of those promises will be informed by the year you were born.

Do we need to be worried about Australia's economic outlook?

Tue, 22 May 2018

This article first appeared on the Yahoo7 Finance web site at this link: https://au.finance.yahoo.com/news/need-worried-australias-economic-outlook-060611703.html 

----------------------------------------------------

Do we need to be worried about Australia's economic outlook?

The Reserve Bank of Australia reckons that the next move in official interest rates is more likely to be up than down. RBA Governor has said so in recent weeks as he talks up the prospects for the economy over the next year or two.

This is disconcerting news for everyone out there with a mortgage or a small business loan, especially in a climate where the business sector is doing it tough and when wages growth is floundering near record lows. The good news is that the RBA is likely to be wrong and the next move in interest rates could be down, such is the run of recent news on the economy. Failing an interest rate cut, the hard economic facts suggest that any interest rate rises are a long way into the future and if they do come, there will not be all that many.

At this point, it is important to bring together the issues that would need to unfold to see the RBA pull the lever to hike interest rates.  At the simplest level, the start of an interest rate hiking cycle would need to see annual GDP growth above 3.25 per cent, the unemployment rate falling to 5 per cent and less, wages growth lifting towards 3 per cent and more and underlying inflation increasing to 2.5 per cent.

This is where the RBA expectation for higher interest rates is on very thin ice.