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Why negative gearing makes little difference to house prices

Negative gearing makes little difference to house prices.

Other factors such as new construction, demand from population growth, the unemployment rate and the overall business cycle are far more important determinants of house price changes than tax rules. One only has to look at the recent capital house price trends for unambiguous proof.

Since January 2015, Sydney house prices have risen by around 20 per cent. Over the same timeframe, Perth house prices have fallen by around 9 per cent.

This massive 30 per cent differential between Sydney and Perth house prices in just 18 months, has occurred with the existing negative gearing and capital gains tax laws in place. Nothing has changed in tax policy over that time. Quite plainly, something other than negative gearing rules are impacting on house prices.

In the case of the slump in Perth, the drivers are a weak State economy in Western Australia, rising unemployment and a fall away in new demand as population growth has slowed. Against perceptions, negative gearing rules are clearly not driving house prices higher.

In Sydney, prior housing shortages, a falling unemployment rate and strong population growth are the positive factors behind the unrelenting house price surge. Sydney house prices have also benefitted from a high foreign investor interest, which is unrelated to negative gearing.

As part of its policy to raise revenue to fund education and increase the budget surplus after 2020, the Labor Party is proposing to limit negative gearing to new dwellings only, and it will reduce the capital gains tax concession, if it wins the 2 July election.

There has been a frenzied reaction to this policy proposal. Even the Prime Minister, Mr Turnbull, has said it will “destroy” house prices and “take a sledgehammer to property prices”.

This looks rather shrill and is ill informed given the recent trends in Sydney prices versus those in Perth. Indeed, any suggestion that house prices will “crash” or “plummet” because of prospective negative gearing restrictions on investment in established dwellings are nonsense. They ignore the myriad of other factors that influence house prices.

Those factors vary widely from state to state, city to city and the regions. If demand from population growth and macroeconomic conditions remain favourable, house prices will remain strong regardless of any negative gearing tax changes.

Conversely, if the Coalition win the election and negative gearing rules do not change, house prices could still fall is the current surge in housing supply continues to outpace demand from demographic changes.

Many of the more extreme forecasters are looking for Sydney and Melbourne house prices to drop 20 per cent or more, regardless of negative gearing changes. They cite stretched household debt, regulatory restrictions to investor lending, over building and very low rental yields as factors that will drive house prices lower.

It is difficult to say how weak house prices might be over the next few years, but any price slump, if it were to occur, would be unlikely to be driven by changes in negative gearing rules.
Recent trends in prices in Perth and Sydney show that clearly.