Australians are world champions in household debt. As of last year, just before the COVID crisis hit, the household debt-to-income ratio reached almost 200%. Most of that debt is tied up in mortgages, posing a significant macro risk (ABC).
The housing market has become too big to fail, and one quarter of the Australian economy is directly or indirectly connected to construction and property sales. To protect the market, we are seeing a lot of snake oil, from government, banks, the media, industry lobby groups. But too big to fail doesn’t mean prices can keep rising forever.
Our over-reliance on property has created major problems and distorts investment decisions away from productive industries such as manufacturing. Our manufacturing industry now only accounts for 6% of GDP, and Australia ranks last for manufacturing self-sufficiency among its OECD peers, producing goods worth only about 70% of national consumption (Australia Institute study in SMH).
How did we get there?
House prices left the real economy behind a long time ago
People vaguely sense that not everyone can get a one million dollar mortgage and that Sydney house prices at 12 times the average income are not sustainable. Younger Australians are increasingly locked out of home ownership. Economist Dambisa Moyo wrote in her 2011 book, How the West was lost, that asset bubbles arise when the volumes of the assets traded and the prices quoted for it are so high that they are at odds with the intrinsic value of the asset itself.
“This dry and matter-of-fact explanation of what is an asset bubble is does not adequately describe the lunacy, the uncontrollable feeding frenzy that takes place – the sense of compulsion in the air that, at any cost, the asset must be bought,” she wrote.
Moyo was reflecting on the property crash that followed the subprime mortgage crisis in the US which led to the global financial crisis. What did we learn down under from the pain in America and Europe? Nothing.
FOMO drives housing bubbles
For years, it was all about Fear of Missing Out. As Sydney property prices continued to climb, middle class punters were happy to borrow more to finance their property ambitions. People happily bought overpriced shoeboxes 60km away from their workplace to have a foot on the ladder (we almost did!). Economic fundamentals such as income or economic growth had really nothing to do with it anymore. Instead we witnessed a combination of sheer greed from sellers and panic from the buyer.
In the end, it’s all about mass psychology driving speculation and above all, indebtedness. We have friends with 3, 5, some even more than 10 investment properties. The whole idea behind building an “investment portfolio” is to see capital gains. This ignores the inherent risk of any investment strategy and builds on a strong belief system around property’s infallibility. You are a fool if you are not following the proven road to riches.
The mum and dad investors factor
After years of asserting that “Australia is different”, the COVID situation has completely changed the dynamics. The Federal Government expects unemployment to go up to 11%. Sydney is particularly hard hit by the border closures as it draws on the thousands of students, tourists and business people from overseas to prop up the property market and consumption.
Already, rental vacancies are at record highs, rental returns are falling and small scale property investors are reporting unprecedented levels of financial stress. This is before the JobKeeper and JobSeeker payments are being reduced and phased out.
Herd mentality will accelerate downward spiral
As early as May, the Federal Reserve Bank of Australia issued recommendations to suspend property trading all together to avoid a crash. These highly confidential documents were released following a Freedom of Information (FOI) investigation (ABC). While this hasn’t happened, Commonwealth Bank, Australia’s largest bank, expects Australian property prices to fall by as much as 32% (ABC and other news sources) if the downturn continues.
Even a much softer price correction will send a strong signal to the masses to defer purchases and offload investment properties before the market bottoms out. Sure, home owners will cling to their properties for as long as possible and the government will do whatever in their power to shore up short term demand. But do we really want to waste even more taxpayers billions on a system that is inherently broken and contributing to Australia’s broader economic malaise?
Impact on renters
In the short term, this situation means more pain for renters. E.g. if the landlord sells a property or the bank repossess it, they will be given notice to move out. Having said that, with 6 months leases the norm in Sydney, tenants are used to a high degree of mobility and there is more stock on the market.
It’s also clear that a general recession or even depression will bring more misery and job losses which will affect renters, investors and homeowners alike. We are likely to see an unprecedented level of homelessness across Australia, and need urgent action securing and building emergency and long term accommodation for thousands falling through the cracks.
From crisis comes opportunity. In the long term, I am hoping to see a rethink in Australia. The great Australian dream has promoted property as the favoured vehicle for private wealth creation. Instead the army of mum and dad investors has created a system of disadvantage and discrimination for renters, and driven up prices for everyone.
We need ‘build-to-rent’ rentals where the element of personal retaliation is removed and renters can rely on professional property management backed by stronger tenancies laws. And when people eventually decide to buy a place to call home, it’s about raising a family again, not making millions down the track.
Read more: The future of renting in Sydney