As house prices fall across Australia, should we be worried for our economy?

Tue, 13 Mar 2018  |  

This article first appeared on the Yahoo7 Finance website at this link:  https://au.finance.yahoo.com/news/house-prices-fall-across-australia-worried-004714571.html 

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As house prices fall across Australia, should we be worried for our economy?

Are you a home owner?

If you are in Sydney, Perth and Darwin, you are losing money at a rapid rate.

In Melbourne and Canberra, prices are topping out and there is a growing risk that prices will fall through the course of this year. If your dwelling is in Brisbane or Adelaide, you are experiencing only gentle price increases, whilst the only city of strength is Hobart, where house prices are up over 13 per cent in the past year.

The house price data, which are compiled by Corelogic, are flashing something of a warning light on the health of the housing market and therefore the overall economy. For the moment, the drop in house prices has not been sufficient to unsettle the economy, even though consumer spending has been moderate over the past year.

The importance of house prices on the health of the economy is shown in the broad trend where the cities that have the weakest housing markets tend to have the slowest growth in consumer spending and are the worst performance for employment and the unemployment rate. The cities with the strongest house prices have strong labour markets and more robust consumer spending.

There is a range of academic literature on this correlation between house prices and the health of consumer spending. The Reserve Bank of Australia a few years ago showed how high house prices were correlated to higher consumer spending https://www.rba.gov.au/publications/rdp/2013/pdf/rdp2013-04.pdf .

Academics from North Western University and the University of Chicago found that there was a ‘large’ consumption response, both up and down, to changes in house prices. https://www.restud.com/wp-content/uploads/2017/09/MS20860manuscript.pdf 

The authors of this global study warned, quite simply, that there was a ‘widespread policy concern that boom-bust cycles can end with large contractions in consumer spending’.

Which provides food for thought as the house price falls spread around Australia.

In Darwin, housing prices have dropped a stunning 22 per cent since the 2014 peak. In Perth, the fall has been a still painful 11 per cent over the same time period. The collapse in mining investment and a slowing in population growth have impacted these two cities, notwithstanding record low interest rates.

Since September last year, house prices in Sydney have dropped a significant 4 per cent which has reduced the value of a $1.1 million property by $44,000. Little wonder retail sales in New South Wales are stalling and the labour market is showing signs of a turn.

Melbourne house prices are, so far, only down 0.5 per cent from their peak in December but there are warning signs that there will be further weakness as new supply comes on to the market and as the banks have tightened their lending. While the economy continues to muddle along with GDP growth of a modest 2.4 per cent in 2017, a house price decline could be the factor that trips up the economy.

If the fall in home-owner’s wealth across most cities continues or worse gains pace, then you, the consumer, will react by cutting spending, firms will hunker down with lower investing and hiring and the economy will weaken.

But even a modest decline in prices will see consumers trim spending which in turn will see the economy under-perform for yet another year.

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