Yes, There Is A Housing Affordability Crisis
Stephen Koukoulas, economic adviser to PM Julia Gillard, is one of Australia’s most effective shit-stirrers. He regularly gets earnest young people riled up by dismissing millennials’ complaints about economic hard times, urging them to stop whining and work harder, and reminding them that the music of Bob Dylan is superior to anything that non-Baby Boomers have been able to produce. Most strikingly, last year he suggested that young people could put together a deposit on a house by not buying takeaway coffee and saving the money instead, advice which caused anyone with recent experience of the actual housing market to guffaw with merry laughter.
Recently he claimed that the housing affordability crisis is exaggerated, and that buying a house now is no more difficult than it was thirty years ago. He is wrong wrong wrong, so I did what any rational adult would do: I stayed up all night to write a detailed rebuttal.
His main argument is that house prices have risen, but mortgage interest rates have fallen, so the cost of servicing a mortgage hasn’t changed relative to a typical income. This week he reiterated that by tweeting this RBA graph, which he labelled ‘the facts’.
When it comes to housing affordability, the RBA zeros in on two questions: whether there’s an asset bubble, and whether people can make their mortgage payments. Both of them are critical for making sure the banking system doesn’t crash, so it makes sense that the RBA would focus on them. But it’s wrong and misleading to take this graph for more than it is.
So there is no ‘RBA view’ on housing affordability, mainly because it’s not their job. They think a lot about mortgage repayment rates, and if you ask them to make a submission to an inquiry about housing affordability then they can give you a thousand words on the topic. But they’re well aware that the housing market is more complex than that, as they’ve said repeatedly over the years. A favourite theme (in research and speeches) is that floor-space restrictions in major cities should be eased, which would cause house prices to fall, so presumably they’re aware that there’s an issue.
In any case, the RBA’s graph uses Australia-wide averages, which makes sense because they’re keeping track of the whole country’s financial health. But the housing affordability problem is concentrated in inner-city Sydney and Melbourne. As the mining boom fades, house prices are falling in Queensland and tanking in WA, so house prices are looking benign on average. And it’s always been easy to buy or rent a house on the outer edges of Melbourne’s outer satellite suburbs. That’s not the point. When people say there’s a housing affordability problem, what they mean is that someone on a typical income has no prospect of buying a house in Melbourne that’s less than a one-hour commute away from where they work. Or that many people on low incomes have literally zero options for renting a place in the entire Sydney metro area.
The other huge problem with Koukoulas’s argument is that it leaves out inflation. Put another way, the real interest rate hasn’t changed that much in the last forty years, even while house prices have shot up. This made it much easier for Baby Boomers to pay off their houses because inflation pulled their wages up quickly while their mortgage debts stayed fixed. Here’s one way of visualising that:
That’s what you get if you assume that a person spends 40% of their gross income on repaying their variable-rate mortgage each month, having bought the median house in Sydney in a given year. I used average compensation of nonfarm employees instead of household income (it’s much easier to get hold of), and made the conservative assumptions that mortgage rates stay low after 2015 and that wage growth picks up to 3% annually. The overall picture is clear: with lower inflation, it’s much harder to pay off a mortgage now than it was thirty years ago.
On one level, Koukoulas is making a reasonable point. Buying a house is a big deal, and expecting it to be easy would be an overreach. The trouble is that he’s clinging on to that attitude even while the facts slip out from under him. When the rental market has become dire, when house prices are rising much faster than incomes, and when economists of all stripes (including those at the RBA) keep calling for more density and housing supply, then that position is no longer tenable. Here’s another way to make that point, in terms that Koukoulas might appreciate:
And one more thing: Bob Dylan suuuuuuuuucks.