Tony Alexander Market Update March 2020

Effects of the Virus

In last month’s column I looked at why many people got caught out in believing house prices would collapse during and still after the GFC, and why our house prices have risen so much over the long-term. There are some figures I could have included regarding those long-term changes and here are a few of them for those of you who like long-term trends.

Since 1999 on average NZ house prices have risen almost 500%. Prices have gone up near 600% in Auckland and 400% outside of Auckland. In the early days of these escalating prices you could claim that alongside the many factors I listed last month, that debt growth was a strong driver.

In fact, the ratio of household debt to income now stands at 163% compared with 60% in 1992. But here is the interesting thing. In the ten-year period ending in 1999 household debt in New Zealand grew by 220%. It then grew 140% in the ten years to 2009. In the past ten years the growth has been only 60%.

You can’t run the argument that the average 88% rise in NZ house prices over the past decade is because of a splurge in household borrowing. Instead, initially in play were the factors I discussed last month, and in particular the migration boom from 2012, structural fall in interest rates, and considerable catch-up buying from around 2011 also – plus shortages caused by the lowest levels of house building since the 1960s.

More recently we have seen a new acceleration in house prices from the middle of 2019 happening in both Auckland – which had been flat to slightly down since late-2016, and outside of Auckland. These numbers sum things up.

In the six months to July 2019 on average Auckland house prices fell 0.4% while they rose 1.7% elsewhere. Since then prices have risen 4.6% in Auckland and 6.8% outside of our biggest city (which accounts for about 45% of the value of the housing stock in NZ).

Why this new upturn in prices? I list nine reasons in my Tony’s View publication of February 27, but the main ones are these.

• The 0.75% reduction in the Reserve Bank’s official cash rate between May and August 2019.

• Confirmation of no capital gains tax, and not even an extension of the five-year brightline test.

• An uptick in confidence in the economy.

• Listings shortages.

To supplement the understanding we all need to have of how the residential real estate market is going I started up a quarterly survey of Barfoot & Thompson agents early in February and got results such as these. A net 24% of agents feel that things have turned towards a seller’s market in Auckland. Between a net 60% and 70% are seeing more people at Open Homes and auctions. A net 35% feel FOMO (fear of missing out) is back in play.

Basically, Auckland has new momentum and the rest of New Zealand has extended with strength the gains which started over 2014-15.

But where now when we take the Covid-19 virus from China into account? For the world economy the outlook has dimmed from a wide variety of sources – cautious sentiment, interruption to supply chains, avoidance of activities involving crowds, and a major decline in international travel.

Here in New Zealand, putting aside the unknowable scenario of whether an outbreak will happen here and we self-isolate some communities, the tourism hit is the biggest. The universities are the most vocal group, illustrating how they have unwisely tied their finances excessively to students from one country. Tourism’s decline (numbers down perhaps 15% plus) will certainly affect the main centres. But in terms of on-the-ground visible impact which will depress local consumer and business sentiment, it is in the regions that the effects will be greatest.

Rotorua in particular will take a hit, partly because of the accompanying forestry decline. But as realisation sinks in that it is not just visitors from China who will not be coming here, other tourist destinations and pass-through locations will suffer also.

That then raises the question of how sustainable house price levels might be in some locations as a rush of investor and first home buyers has pushed prices skyward, produced a surge in construction, but now an economic correction sets in.

We Kiwis tend to be quite mobile and the risk is that people affected by the decline in tourism shift to where they can see a better chance of finding work – the main cities.

Thus, if you were to ask me how I see the virus outbreak affecting the housing market in New Zealand my response comes in two parts. First, because migration numbers are likely to improve as Kiwis stay home, and because interest rates are likely to fall, there will be a good balancing offset to the likely stalling of improvement in the labour market and generalised wave of caution which will go through everyone as they consider purchasing anything.

On balance prices nationwide are likely to continue to rise, but the pace is likely to slow from that of the past six months. However, and this is the second part of the answer, the main centres are likely to maintain their recent momentum to a greater degree than the regions because of the tourism sector impact, and because of the drought which logically also mainly affects the farming regions.

As regards our economy overall during this virus period, it is impossible to predict with reasonable accuracy what will happen because we cannot know how the virus will spread offshore and here, and how this will affect global trade, prices for our exports, and generalised sentiment.

The best we can do is acknowledge that a recession risk now exists, but that there are many factors which will help insulate our economy and produce an environment nowhere near as negative as that during the 2008-09 global financial crisis.

The Reserve Bank is likely to cut interest rates at least once and the government will ease fiscal policy in some manner. Our labour market is very tight so affected firms will try to cut staff hours rather than lay people off. There is high strength in the construction sector and because of the long- term focus of construction projects the impact may not be that great – as long as Chinese factories then shipping routes return to normal within two months.

The Kiwi dollar is likely to edge slightly lower. The banking system here and especially overseas is in sharply better shape than going into the GFC. Net migration is firm and may strengthen further. There is strong underlying growth in a wide range of sectors such as aged care, horticulture, video production, games development, space.

In the absence of news that widespread closure of borders is happening around the world it seems reasonable at this stage to think in terms of our economy being flat to potentially shrinking a bit in the first half of this year, then recovering over the second half.

None of us really know. But it may be useful to note that China reacted extremely strongly to the outbreak and now things appear to be getting under control over there (fingers crossed). At some stage the same thing will happen in the rest of the world. When that occurs, we are likely to see some strong recoveries in sharemarkets and generalised sentiment. But we have no idea if we are one week away from that point, one month, or longer.

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By Tony Alexander