Last month we identified
the reason why we believed the RBA was slowing down on cuts was the fact that
the housing market was improving and that strength would eventually show up in
the economy. Today, we received a new release of the house price figures that
show a great deal of strength is continuing to come through. Prices rose 1.4%
in October, which is the strongest monthly increase since March 2015.
Chart 1: Monthly house prices and cash rate
both Sydney (+1.7%) and Melbourne (+2.3%) showed very strong increases – two
regions that had previously been dragging on prices. Melbourne is now basically
Table 1: Change in house prices
At this time, the forward indicators that we track look very strong. Auction clearance rates are running at around 80% (similar to 2015/2016 levels) and this typically leads prices by about four months.
We expect prices should be up about 10% year-on-year in early 2020
Chart 2: Auction clearance and house prices
On top of this,
finance is starting to come back to the market with a clear turning point being
that first RBA cut. Chart 3 shows the jump in the total mortgage approvals,
stopping the downtrend of 2018
Chart 3: Mortgage finance and house prices
This is coming across
both Owner Occupier and Investor, both of which are set to stop contracting
Chart 4: Australian mortgage finance
This is likely to
continue, as Westpac has begun loosening its lending standards and we would
expect the other banks to eventually follow. Here are two examples of what they
In no way is this as easy as the policies in 15/16, but easier nonetheless, which should entice more borrowing and cause the other majors to ease standards if they want to chase market share.
So, what would this mean for the economy? The
most obvious place to look is construction/building. People point at all sorts
of indicators to explain the drive in residential building approvals, but the
best indicator is house prices. When prices rise, developers produce more stock
— it’s relatively simple
Chart 5: Housing prices and building approvals
Part of the reason building approvals slowed was also that investor finance had tightened, making these off-the-plan properties harder to sell. If investor finance starts to rise with prices, this dynamic could quickly change and produce a more positive construction outlook than the RBA currently sees.
We should also see some improvement in retail sales, as the RBA made this comment around why retail had been soft:
“The slowdown in consumption growth in recent quarters has been more pronounced for discretionary items, particularly those typically associated with housing turnover and household wealth…By category, year-ended growth has eased the most since mid-2018 for furnishing & household equipment and sales of new cars.”
If this continues, we expect the RBA will become more divided on their views on what sort of house price appreciation is appropriate. For example, this comment in the October minutes from their meeting states that they seem fine with the current risks, but rising prices/household debt would need to monitored.
“Members also noted that the housing market and other asset prices might be overly inflated by lower interest rates. Members acknowledged that asset prices were part of the transmission mechanism of policy, including by encouraging home building. By themselves, higher asset prices were considered unlikely to present a risk to macroeconomic and financial stability. This assessment would need to be reviewed if rapidly increasing asset prices were accompanied by materially faster credit growth, weak lending standards and rising leverage. Although household debt was still considered high, members saw only a limited risk of excessive borrowing at the current juncture: household disposable income growth (and thus borrowing capacity) is weak; the memory of recent housing price falls is still fresh; and banks are still quite cautious in their appetite to lend. Nonetheless, members assessed that close monitoring of this risk was warranted
A few more +1.5% rises and the “financial stability” arguments will likely be back in the market about high asset prices/debt.
Overall, we believe this points to the idea that if you expect the RBA to keep cutting over the next six months, it will need to come from concerns outside of the housing market as this outlook will start to shift from a negative to a positive for the economy.
In all likelihood, we believe the RBA will keep
rates on hold through to the middle of next year, as rate cuts usually give the
housing market a 12 – 18 month runway of price increases
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Chris What about volumes compared to the past?
Chris, the critical factor in housing price inflation is not the cost of money, it is the supply of money. Every house price downturn since WWII has been triggered by constraints on supply. The downturns in 1961, 1974 and 1982 (each about 30-40%) resulted from RBA restricting money supply to calm a frothy economy, in the process flattening the property market. After de-regulation in 1983 the RBA had no direct control over money supply. It only had one lever, interest rate. In 1987 it pulled that lever, with lending rates in the high teens. Despite that, the Sydney property market that had flatlined for 5 years took off, with prices increasing up to 30% per quarter. Prices again crashed in 1990 by up to 40% after RBA had to step in to get control over the stretched lending by banks. What followed was the first private enterprise credit squeeze, with banks calling in loans and restricting new lending to deal with what was for some of them an existential threat. Subsequently banks changed their funding of property lending to securitisation that for many years took that lending off their balance sheets until forced to include it in capital adequacy calculations. The latest property downturn has been a flea bite compared to previous 30-40% drops, but the drivers of it were prudential constraints on lending. When lending constraints were relaxed (almost to the month), the flow of funds reversed property prices from downturn to upturn as reflected in your charts. If RBA believes an interest rate reduction is needed to stimulate the economy it has to come to terms with control of the almost unlimited supply available through securitisation of property lending if it wishes to avoid unwanted stimulation of already over inflated property prices.
Great comment on auctions, which themselves reflect availability of mortgage finance. Long term charts mirror business cycle.