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House prices have created a ‘lost generation’
Topic Started: 27 Oct 2014, 02:20 PM (3,702 Views)
peter fraser
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House prices have created a ‘lost generation’

Rob Burgess, 24 Oct, 5:45 PM

Feelings matter in economics, and a person’s position within the housing market tends to determine how they feel about the past 20 years of house price inflation.

For Australians not resigned to renting their homes, the feelings progress something like this:

– For members of ‘Gen Y’ (now aged between 20 and 37), there is often despair that “I’ll never save a deposit for a home of my own!”;

– For members of ‘Gen X’ (more like 40 to late 50s), it’s something like “what a grind it’s been paying this mortgage, but at least we have a large capital gain”;

– and for the baby boomers, it’s something like “we’re sorry it’s hard for our kids to get into the market, but what can we do about it (and would you like to rent our investment property)?”

The long-entertained view that house prices would fall back so that they were more in line with the price-to-income ratios seen in the 1990s begins to look like a false hope -- and I write that as someone who took part in Steve Keen’s 280km ‘Debt March’ in 2010 to highlight the ‘problem’ of Australia’s ballooning mortgage debt stock.

A sharp price correction could still happen, but it looks increasingly likely that what we have observed is a historic ‘maturing’ of the finance industry that funds housing.

One aspect of that ‘maturing’ is the changing sources of debt funding. Without recapping on the history in detail, the late 1990s saw the rise of non-bank lending supported by securitised debt -- a sector that was substantially diminished by the GFC.

However, at the same time, banks also began to tap wholesale funding sources. The savings of East Asia in particular lowered the cost of funding right up until the credit crunch of 2008/09, and five years on from that, are once again providing a source of cheap deposits that allow Australian home-buyers to borrow larger amounts.

Another ‘maturing’ of this market was explained to me this week by Bank of America Merrill Lynch Australia’s chief economist Saul Eslake. He points out that the superannuation guarantee set up by Paul Keating in 1992 radically changed the flow of capital within the domestic economy.

Forcing all Australians to save 9 per cent of earnings (a figure that is now rising, in stages, to 12 per cent) means super funds have to look for productive homes for that cash -- and offering that cash on the wholesale market to banks has been one part of the asset allocation.

So, indirectly, Keating asked workers-cum-retirees to forego some consumption, and to invest some of the money saved in the homes their kids would one day want to buy or rent. Negative gearing tax concessions on housing only amplify this process.

Some have characterised this as a ‘war on youth,’ but Eslake simply says that he’s “amazed there isn’t more anger among young Australians” at the way these policies have “rigged the housing system against them.”

Those who reject the ‘war on youth’ tag, point out that with home ownership levels in Australia being high by international standards, the increasing ‘sophistication’ of the mortgage financing industry is just pushing Australians into lifestyles similar to other advanced economies ­-- home ownership here is a touch under 70 per cent, compared with just over 40 per cent in Germany, for instance.

Structural change often produces social discord. That “anger” that Eslake speaks of is loaded with political potential -- but only to the side of politics that can offer a real solution to make housing more affordable to youngsters.

And as both major parties rely on votes of Australians in the middle and upper age brackets, addressing the tax and investment policies that “rig” the market against youth seems virtually impossible.

That means that current asset prices and lending patterns might never ‘correct.’

So, what will happen if, for decades to come, young first-home-buyers are forced to either service enormous debts (that is, rent capital off the older generations) or resign themselves to renting properties owned by the older generation?

Well, not much, really. If the new financial landscape turns out that way after a 20 year evolution, then future generations won’t know any different -- in the same way that first-home-buyers in London, Tokyo or New York don’t know any different.

Read it all Here.
Any expressed market opinion is my own and is not to be taken as financial advice
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Emmanuel
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What do you think Pedro? No let up on iPhone or latte sales. Jetstar's doing OK too. I think the munchkins want their cake and eat it too.
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peter fraser
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Emmanuel
27 Oct 2014, 02:28 PM
What do you think Pedro? No let up on iPhone or latte sales. Jetstar's doing OK too. I think the munchkins want their cake and eat it too.
I think that he completely misunderstands bank loan funding and is rooted in a different model that existed pre Keatings deregulation of banks in about 1987. Note that the banking regulations changed at much the same time as developer contributions came into being, followed by the GST. That combination pushed up the cost price of land and housing. He doesn't seem to understand that, and nor apparently do many others.

But I do think that he is largely correct when he said
Quote:
 
"That means that current asset prices and lending patterns might never ‘correct."


Of course there will be minor corrections but unless we absolutely stuff up our bank lending like the US did then it's pretty much more of the same for as far as the eye can see but with market fluctuations.

Any expressed market opinion is my own and is not to be taken as financial advice
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Emmanuel
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peter fraser
27 Oct 2014, 02:39 PM
I think that he completely misunderstands bank loan funding and is rooted in a different model that existed pre Keatings deregulation of banks in about 1987. Note that the banking regulations changed at much the same time as developer contributions came into being, followed by the GST. That combination pushed up the cost price of land and housing. He doesn't seem to understand that, and nor apparently do many others.

But I do think that he is largely correct when he said


Of course there will be minor corrections but unless we absolutely stuff up our bank lending like the US did then it's pretty much more of the same for as far as the eye can see but with market fluctuations.
You're so right. The younger ones have to fit into the system. If the author cannot get that, then there's no hope for him.

It's just the way it is. Live with it people.
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b_b
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peter fraser
27 Oct 2014, 02:39 PM
I think that he completely misunderstands bank loan funding and is rooted in a different model that existed pre Keatings deregulation of banks in about 1987. Note that the banking regulations changed at much the same time as developer contributions came into being, followed by the GST. That combination pushed up the cost price of land and housing. He doesn't seem to understand that, and nor apparently do many others.

But I do think that he is largely correct when he said


Of course there will be minor corrections but unless we absolutely stuff up our bank lending like the US did then it's pretty much more of the same for as far as the eye can see but with market fluctuations.
+1 Peter,

I find it amazing just how may commentators are hopelessly out of paradigm.

As you know, the loan creates the deposit. We do not get funding from cheap savings from Asia - or from the superannuation industry. But the Bears are now backfilling their story to explain why their models were wrong. Unfortunately they are jumping on brand new models which are just as wrong.

I do believe there is a real chance of a housing correction in a couple of years time (2016-2017) unless something changes soon. Of course any correction will come from a much higher price point - probably when SK buys.... :)

As the bears capitulate, the end draws closer. It is all going to script. Where's that bubble chart? Somewhere between enthusiasm and greed perhaps? A few headed toward delusion....
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Edited by b_b, 27 Oct 2014, 04:28 PM.
(S – I) + (T - G) + (M - X) = 0
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Ollie
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With house prices nationally growing at around 10% per annum, Australia now finds itself in the precarious position whereby housing values are increasing at roughly four times the pace of wages – an unsustainable situation.

Moreover, this housing cycle is being driven by unprecedented levels of investor demand, which is not conducive to sustainable house price growth. Investors, whose decision to purchase property are based on weighing-up alternative investment returns, are more likely to be fickle and cut-and-run as soon as conditions change, or more profitable opportunities are presented elsewhere. This places Australian housing on a more fragile footing than if demand was driven primarily by owner-occupiers, who tend to buy into housing for the longer-term.

The Australia’s economy is also on a very different trajectory than was the case a decade ago, with the economy facing multiple challenges via falling commodity prices (terms-of-trade), shrinking mining investment, and the closure of the local automotive assembly industry.

So, while the housing market was similarly inflated a decade ago, values were at least supported by strong employment growth and falling unemployment, followed by strongly rising incomes as the once-in-a-century mining boom gathered steam. However, the situation today is the polar opposite, with the labour market likely to weaken and anaemic income growth likely over the foreseeable future. These headwinds will obviously make it harder for house price growth to be maintained, while at the same time raising the real prospect that prices could correct in the event that unemployment rises significantly from current levels.

Population ageing will also see a continued contraction in the share of workers in the economy, creating further headwinds for the economy and asset valuations into the future; albeit over the longer-term.

Given that Australian housing valuations are soon likely to hit their highest level on record, and the unfolding structural adjustment taking place across the economy, in my view the risk of a housing correction sometime in the near future is greater now than at any other time in living memory.
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Lou Ellen
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peter fraser
27 Oct 2014, 02:20 PM
House prices have created a ‘lost generation’

Rob Burgess
As a top-down property analyst, I am consistently reappraising my view and sometimes I have similar thoughts about structural adjustments and wonder of Australia hasn’t created the perfect bubble market. After all, consider its strengths:

government guarantees across the board
vested political sponsorship in every quarter
tax distortions creating strong fiscal support
high immigration levels
proximity to China and property obsessed Asia
planning and supply side bottlenecks
a Reserve Bank that just loves a good boom
banks that aren’t interested in anything but mortgages
capital discounting that allows huge leverage in the banks
a property obsessed population

I could go on. It is always tempting to roll over and see these forces as inexorable, inevitable and indomitable.

But, I still don’t. In fact, with the passing of the years, with each new phase of bubble expansion, with each new distortion in its support, it becomes only more obvious that this great unwieldy thing that has emptied out our economy will face its reckoning.

What Burgess describes as an “historic maturing” of the banks in their use of wholesale credit is, in fact, an externally funded credit bubble. The offshore funding to GDP ratio is climbing towards its highs.

As gross external liabilities launch through record highs.

The bubble only continues to exist owing to the flow of this credit. And it is most definitely a bubble because it exists only owing to government fiat. Had it not been explicitly guaranteed by the public balance sheet in the GFC, and implicitly ever since, it would long ago have deflated. I would not call this a “maturing” banking system unless that equals too-big-to-fail.

The key, then, to making a judgement about the sustainability of property prices is to ask whether or not authorities will be able to continue to support it.

It is a near certainty that the next global crisis will result in some kind of repeat seizure in global credit markets. It may or may not be as severe as the GFC, depending upon the fate of Europe, but it doesn’t need to be to end the property bubble. In 2012, Australian bank funding costs were expensive enough to deliver the end, but the spike was short enough to be handled and tumbling interest rates, as well as higher net interest spreads absorbed those higher funding costs. Now they they’ve gotten cheaper again for a while.

But imagine what happens when the AAA sovereign rating is lost for good. That will be the key inflection point for the bubble. The budget has 10% of net debt to GDP in fiscal spending in reserve before that event. The RBA has no more than 100bps left in monetary policy easing to support it. Both will be exhausted by one more moderate global crisis, let alone a severe one.

The Burgess rollover is ringing the bell at the top.
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Brett
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I would have been tempted to agree with Rob if it weren’t for the runup in prices that the RBA has encouraged over the last 18 months… Stevens went OK for a bit there (say 2010-12) as he talked about the bubble deflating by nominal prices going sideways for a prolonged period.. but then went off course with the “hand over from the mining boom” story, probably influenced by the vested interests saying there needs to be capital growth for developers… As MB has been pounding on, macroprudential tools should have been at the ready as they reduced interests rates and they should have responded before Sydney and Melbourne got this far up the steepest ascent of the roller coaster.

If you read APRAs stress test modelling papers you will see that mortgage arrears tend to rise steeply 3 years after origination and stay elevated for 6 years or so… So they are going to have their work cut out for them to manage the stresses coming out of Sydney and Melbourne after the latest runup in prices(which makes up 50% of the country’s housing stock).

(One caveat, APRA modelling based on periods with less investor activity so can’t be sure of how representative it will be – arrears could be worse or better??? – and of course, as MB has frequently stated, investors could turn tail much quicker anyhow… And another unknown is how the foreign investor factor plays out).

Being in Brisbane I had been glad to see that 6 years period pass since the last major runup in prices – I would suggest the FHBB helped Brisbane more than any other capital as it was naturally entering a weak period before the GFC struck… (That’s why Brisbane prices did not respond as strongly as other capitals to the stimulus measures, I would suggest). Hopefully the introduction of macroprudential stops the mania from spreading here once again, but with some southern investors no doubt still holding property up here from earlier periods of exuberance (where they flew up and hired taxis for the day until they bought an IP), it still remains to be seen what will be the shakeout if Sydney and Melbourne correct strongly. Probably will take us all out, but I am encouraged somewhat by differing paths and outcomes by different US cities.
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Stewart
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The most repugnant part of Bourgeois Burgess’s article was the resignation with which he mater-of-factly trotted of these lines:

“So, what will happen if, for decades to come, young first-home-buyers are forced to either service enormous debts (that is, rent capital off the older generations) or resign themselves to renting properties owned by the older generation?

Well, not much, really. If the new financial landscape turns out that way after a 20 year evolution, then future generations won’t know any different — in the same way that first-home-buyers in London, Tokyo or New York don’t know any different.

Only one or two generations will feel the pain of knowing that housing used to be cheap, and now isn’t — knowing that the generation ahead of them rode a wave of rapid capital growth that they won’t be able to enjoy themselves.”


Really highlights the self interest that define the Baby Boomer generation, and their willingness to push the entire cost of their ponzi economy onto their children, simply so they can avoid suffering any diminution in their own standard of living.

BTW – HnH I wouldn’t be so sure that Burgess capitulation is necessarily the top of the Boomer Bubble.

Housing costs in London and other parts of the UK show that there is still room for additional leverage. When the SHTF out here our Governments have shown an all too great willingness to stand behind the financial system.

When the crunch comes, they’ll blast straight through S&P’s 30% Govt debt levels and won’t even bat an eyelid at sacrificing Australia’s AAA ratings. It won’t be a moment of catharsis. If anything Burgess’s article highlights it shows the willingness of those in power to be all to prepared to burn young Australian’s financially at the stake – do you really think they’ll give two hoots if young Australians will have to pay a couple extra bps?

Unless they drop Australia’s credit rating straight to D, in a zero bound interest rate world the great game of extend and pretend will continue. Credit will continue to be provided, the longer they can string it out between down grades the better.

So what if young Australian’s will have to pay a few more bps in yield and don’t attain anything near the standard of living as their parents, so long as it isn’t enough to tip the country over and allow a few more of them to spend up their booty in the meantime.
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Crap
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peter fraser
27 Oct 2014, 02:20 PM
What a load of crap.

What is this ‘maturing’ of the finance industry that has supposedly allowed a massive bubble to not only to grow but keep growing upon itself?

It sounds like one of those ‘new normal’ phrases that every tulip seller repeats just before the collapse. I agree its always healthy to re-asses your position on the housing bubble as I have done many times myself. But, unless:

- People find a new way of paying off mortgages outside of their income, the income/house price and income/debt ratio remains key. Is this ‘new maturity’ of the finance system somehow inventing a way to give debt to people without requiring them to repay it? Yes yes, we know central banks are big fans of zero interest rates but unless the RBA goes Draghi, there is still a limit.

- The reliance on foreign funders to continually pump up the balance sheet of Australian banks. Until we stop spending more than we save, and the banks stop needing to go offshore to raise debt, the whole system is predicated on the bank’s AA funding costs and the market’s willingness to provide them liquidity. This is not a ‘new normal’. Countless times I’ve spoken to CFO’s of AAA entities only to see their rating in the bin a few years later.

There is no new paradigm, it is a bubble and it will burst for all the same reasons why it would in the past. This guy in the article is just being lazy.
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