Tony Alexander Update October 2021


A positive economic outlook underpins housing strength I have found over the past three and a half decades being back in New Zealand, that when it comes to picking where something in the world of economics is going, a simple T account of pluses and minuses does as well if not better than a sophisticated mathematical model. The problem with models is that one can get so tied up in maintaining one and admiring its beauty that data get discounted and distorted to fit the model, and predictions get generated and relied on which in hindsight are preposterous.

This is perhaps what happened in May this year when both the Reserve Bank and Treasury predicted that house prices over the coming year to June 30, 2022, would only increase by about 1%. Their forecast price gain was achieved in just the first two weeks of July, and since May average NZ house prices have risen by 5.4%.

A key reason for the poor forecasting performance of the two groups with the greatest number of economists in one place is likely to be excessive belief in the impact which their policies have in the housing market and perhaps the economy overall. The Reserve Bank is likely to have firmly believed that bringing back loan to value ratio restrictions and lifting the investor minimum deposit from 30% to 40% would have a big impact on investor willingness to buy.

Treasury probably had high faith in investors not just buying but selling in waves following the March 23 announcement that tax deductibility of interest expenses would be removed.

The Reserve Bank were wrong partly because about one-third of investors pay cash. Also, with the market value of existing properties rising, investors could still comfortably lay down a 40% deposit on a new purchase by spreading the debt over other properties in their portfolio whilst remaining within LVR requirements for them as well.

Treasury were probably wrong because at the moment interest rates are so extremely low that the dollar amount of interest expenses being deducted from rents to calculate taxable income is quite small.

In addition, both organisations will have been wrong because of the great number of factors pushing house prices higher. These include the following.

● A universal belief that there is a shortage of properties in all cities, towns, regions, and hamlets around New Zealand.

● A belief that one million Kiwis located offshore are going to come back home once the borders open up again.

● Sharply increasing construction costs.

● Delays in construction causing some buyers to switch back to buying off listings of existing properties.

● Highlighting of rental property shortages making landlords confident that they will be able to achieve rental increases to help offset the loss of tax deductibility over time.

● FOMO – fear of missing out – remaining at high levels.

● Rising levels of employment and job security.

● Accelerating wages growth.

● Continued diversion of money previously budgeted for spending on overseas travel, towards spending in New Zealand including on property.

● Bank deposit rates barely rising while mortgage rates have increased a bit.

● Rising mortgage rates still at extremely low levels by historic standards.

● Spread of the Delta variant of Covid 19 making people less confident about travelling freely overseas again for some time.

● More recently, a lift in FOMO and buying intensity since lockdown started because of knowledge of what happened when last year’s lockdown ended – house prices soared.

The most up to date indications of where things are at currently come from the monthly survey of real estate agents which I undertake with REINZ and for which on the date I am writing this, Sept. 30, I have most responses in.

The data tell us that FOMO rose as soon as we went into lockdown, and it has remained at the new higher level with 72% of agents saying they are seeing it. More agents now feel prices are rising than in any other month since February. More first home buyers continue to step forward, but investors are still backing away from buying – though in smaller numbers now.

Importantly, there is still no sign of a wave of investors looking to sell. Agents overwhelmingly feel that we are in a seller’s market.

Can this strength continue in the near future? To the extent that a firm economy has relevance to the housing market – and it does – the answer is yes. There is certainly less of a bounce up in retail spending and feelings of joy and happiness at Alert Level 2 outside of Auckland this time around as compared with last year. And Auckland of course remains constrained.

But the less we spend now, the more available to spend later, and the data already tell us that in July we Kiwi householders had an extra $11bn in our bank accounts which would not have been there without the global pandemic. Businesses have a similar extra volume of bank deposits.

The owners of the country’s 1.9 million dwellings are feeling wealthier because of the 37% average rise in prices since May last year. Higher wealth generally drives extra spending.

Businesses continue to search for employees and feelings of job security are slowly rising but with a leap up likely next year when greater freedoms are possible.

These are the sorts of factors which can underpin consumer spending and heavily offset the restraint which is going to come from tightening monetary policy. Already mortgage rates have risen in anticipation of the Reserve Bank pushing its official cash rate up slowly from early-October. But it may not be until late-2022 that worries about debt servicing reach levels deep enough to cause much dent in consumer spending or housing demand.

The government’s recent decision to grant permanent residency to up to 165,000 migrants already in New Zealand can do nothing other than add to housing demand and consumer spending generally. Plus, there are many houses to be built along with water pipes installed and warehouses erected.

The outlook for the pace of growth in our economy is good, even allowing for some slowing in export growth as the world grapples with worsening supply chain disruption and some unique risks manifesting themselves in the Chinese mainland economy.

All up, these factors and quite a few not mentioned, suggest house prices will keep rising at a firm clip through to potentially the middle of next year. But eventually the negatives will dominate and a year from now the rate of price increase is likely to be very slow though listings are likely to be more plentiful.

Of great interest will be how quickly the Reserve Bank introduces debt to income restrictions, and whether the government acts again to try and stem demand from investors, whilst perhaps encouraging them also to sell.