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What will cause Australian land prices to fall?
Topic Started: 3 Nov 2014, 03:34 PM (851 Views)
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What will cause land prices to fall?

Callam Pickering

Despite the important role that residential property plays in modern economies -- often accounting for a majority of household wealth and in countries such as Australia a majority of banking assets -- precious little is known about the sector’s long-term dynamics.

Naturally that’s understandable. Collecting property data was until recently quite difficult and homes are unique assets requiring complex statistical methods simply to derive a single house price index.

To the extent that long-run price indices exist they tend to be quite limited. Perhaps the most famous example is the Herengracht Canal Index from Amsterdam which dates back to 1628. Australia has its own long-run series courtesy of Nigel Stapledon which goes all the way to 1880.

New research by economists Katharina Knoll, Moritz Schularick and Thomas Steger tries to plug the information gap. They present new long-run house price estimates for 14 advanced economies since 1870.

The countries assessed display some similar qualities but the strength of growth can differ significantly. Generally house prices follow a “hockey-stick” pattern -- real house prices remained broadly stable through the late 19th century until the middle of the 20th century and have increased significantly since then.

According to the authors, “real house prices have approximately tripled since the beginning of the 20th century, with virtually all of the increase occurring in the second half of the 20th century.” Real house prices in the 1960s, for example, were not much higher than they were prior to the First World War.

Mean and Median Real House Prices (1870 – 2012)

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Of the countries assessed Australia was without peer, experiencing the strongest real house price growth; Germany the weakest. Real house prices in Australia have increased ten-fold since 1870 and consistent with the broader trends those gains were concentrated in the last six decades.

Germany is a bit of an outlier as far as advanced economies go, with real house prices declining by 0.8 per cent a year between the 1980s and 2012. Japan is another unusual country given its unique demographics.

Historically urban and rural property prices have moved in step, although in the short- to medium-term there can be significant variation. This suggests that at least historically urban and rural living have been considered substitutes.

Perhaps the most important finding though relates to land prices. According to the authors, 81 per cent of the long-term rise in house prices can be explained by higher land prices. This jumps up to 90 per cent for Australia, 87 per cent for the US, 74 per cent for the UK and 95 per cent for Canada.

House prices and imputed land prices

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Explaining why this has been the case is somewhat difficult. Certainly there can be country-specific factors -- in Australia, for example, it can take years to go through the planning and zoning process to release new blocks of land.

But the fact that the rise in land prices has been universal -- it has been observed throughout the sample -- indicates that there is another factor at play. The authors believe that transportation offers the best explanation.

Rail and motor vehicles -- in addition to the airplane and faster shipping -- drastically reduced transportation costs throughout the 19th century and the first half of the 20th century. This triggered an expansion of land development and the increased supply of economically usable land put downward pressure on land and property prices.

The second half of the 20th century has not seen a comparable decline in transportation costs. Cars and rail have improved but the impact has been more cosmetic than transformative, although air travel has become increasingly cheaper.

In that environment, land effectively becomes fixed and combined with restrictions on land use -- and financial deregulation -- has created the perfect environment for a property boom. At first glance this hypothesis makes sense and certainly appears likely.

But we shouldn’t discount the effect on land use restrictions, which separate the likes of Australia and Canada -- with high restrictions -- from the likes of the US and Germany -- where housing supply is more flexible.

The authors also suggest that housing may simply be a superior good; by which I mean a good that households spend more on as they become more affluent. We shouldn’t discount the possibility, particularly given the capitalist model of the economy -- and the modern concept of economic growth -- has really only existed for a brief period of time.

Their assessment begs the question: what will cause land prices to fall or at least normalise to longer-term price-to-income multiples?

First, restrictions on bank lending via a more highly regulated banking sector. To some extent Basel III may already drive this shift but there has obviously been extensive discussion in Australia regarding the Murray Inquiry (Murray must address the moral hazard in housing, July 16) and whether the Reserve Bank of Australia and the Australian Prudential Regulation Authority will introduce macroprudential policies (Another RBA warning on housing, October 10).

Second, ease zoning and land-use restrictions to free up new land and use the land available more efficiently. There’s no good reason why this process takes years and really the only beneficiaries are property developers and state and local governments.

Third, remove measures which artificially increase demand. The first home owners grant, negative gearing and the capital gains exemption could all either be removed or wound back to remove economic distortions and ease the pressure on a relatively fixed housing supply.

Finally, transportation costs can be reduced. For example, this can be achieved via cheaper cars -- and fees associated with running and maintaining a vehicle -- and better public transport or even a scheme such as Uber.

An alternative approach to reducing transportation costs is simply for workplaces to reduce the need for travel full-stop. As information technology continues to improve and workplaces continue to adapt an increasing share of the population will likely work from home.

This, as with the creation of rail and motor vehicles, could potentially make a range of locations more economically viable and increase the supply of land for people to live in. Living in the city will no longer be as appealing.

Long-term property dynamics are interesting because the current situation operates so far outside those norms. Will we revert towards the mean? I have always had my doubts, although I’ve conceded that there is a considerable risk that the sector may underperform for a number of years.

Nevertheless, the cross-country comparison makes it clear that Australia isn’t unique -- although our property growth has been stronger than other comparable countries -- and the rapid rise in property and land prices has been a global affair.

But that isn’t a cause for complacency. High land prices remain a problem for the Australian economy; pricing out Australia’s youth, creating systemic risks for the financial system and potentially creating barriers to entry for Australian businesses. Land prices might be a global problem but they are a bigger problem here than they are almost anywhere else.

Read more: http://www.businessspectator.com.au/article/2014/11/3/property/what-will-cause-land-prices-fall
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Ollie
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While the escalation of house prices has been largely a global phenomenon, markets that have had 1) liberal land supply/planning and/or 2) have not juiced demand via tax incentives or easy credit, have tended experience far less price appreciation.

Examples of the former include many markets in the US where there are few regulatory or geographical constraints on land-use, such as Texas and Georgia. There, land/house prices remained relatively stable and affordable, when compared against the supply constrained “bubble” markets, even in the lead-up to the US housing bubble.

Germany is another market that has bucked the global trend. There, house prices have remained roughly stable since the early 1970s in real terms, despite strong growth in incomes and positive population growth until 2006.

Obvious policy lessons arising from the paper are to remove artificial restrictions on land-use and planning, remove policies that artificially raise demand, such as tax concessions (negative gearing) and subsidies to first home buyers, as well as facilitating the adoption of ‘telecommuting’ so that workers no longer need to travel to a central location for work.

Expensive land/housing is not a fait accompli, but rather the manifestation of poor policies on both the demand and supply-sides.
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Barista
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A mate, who knows my thoughts/interest in the subject pointed this one out to me on Friday night.

He posed to me the question of if there is anywhere else in the world that has constipated land supply like it was in Australia – and I noted the UK, parts of the States, large chunks of Europe etc.

He posed the question of if there was anywhere in the world which juiced demand and access to funding like we do in Australia and i noted Canada, the US UK all the usual.

Then he asked if there was anywhere else in the world where the banking system lent 60% for mortgages and 40% for something else productive – my reply was nup.

Then he asked if there was anywhere else facing the economic adjustment Australia is stepping up to the plate for – involving mega private debt, a profoundly uncompetitive exposed sector, a shrinking exposed sector not plugged into any major market anywhere (unlike say the Canadians) – and I couldn't help but think the answer was a straightforward nup.

The Chinese wall of money changes the immediate adjustment shape and timing, but I dont think it changes that there will be an adjustment.

On another note I drove through Melbourne yesterday and couldnt help but think all those monstrosities in Southbank and along the freeway/docklands are god awful ugly by and large. A sort of 22nd century Melbourne Krushchevka – and give them 15-20 years there will be howls of protest about them.

I keep getting told occupancy rates in them are very low (including from a mate who designs them – yes he thinks they are ugly too but ‘that is what the clients want, and cheap’) does anyone know of any data on this?
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Guest
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Rent to house price ratio is an evidence of distorted supply. Affordable, median multiple 3 cities have the closest ratios. Divergence indicates a supply problem.

The longer the racket in land supply is perpetuated, the more you will see of the kind of outcomes now visible in the UK. How far down that track does Australia have to go? Will people still being arguing that supply is nothing to do with it, when you have a “generation rent”, overcrowding (the only way renters can try to cope in the long term as the increasing ground rent bites), and a quantifiable shortage of housing units?

You could argue that “rents have not risen as fast as house prices” in the UK too – but the fact is that the renters have steadily crowded tighter and tighter so that the rent that would get you a 2 bedroom family home in a median multiple 3 city, in a city like Manchester, will get you a 1/4 share with 3 flatmates, in an approx. 400 square foot apartment.

I am predicting this for Australia the longer denial is perpetuated. Meanwhile some disastrous crashes can be expected; what I am saying assumes that no lessons will be learned and the cycle will continue to repeat as it has in the UK. With housing “supply” response weakening with each cycle, shortage of homes increasing, employment in the construction sector tanking, a crisis of social exclusion, a crisis of overcrowding, and all the rest of it.

Of course the UK may have been kept afloat as a national economy by advantages that Australia does not have – such as having been the first into the industrial revolution, and having had an empire, and having the world’s most powerful global finance and media agglomeration. Aussie of course has rocks it digs up.

Maybe the Aussie economy will tip into economically unsustainable conditions long before the actual “housing” phenomena the UK now demonstrates, is triggered. It has required about 4 cycles in the UK since growth containment; Aussie has not yet had its first proper crash since growth containment. 2008 was the right time in the cycle to have one, but it dodged that one. Therefore when the next timing point is reached, it will be a biggie.
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The collapse of China, along with falling jobs and wages might do it.
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lulldapull
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3 Nov 2014, 04:52 PM
The collapse of China, along with falling jobs and wages might do it.
That's it MMM................that has already done it!

No doubt in anyone's mind...............unless he's of course retired with a pile of cash or fucking retarded!
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peter fraser
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Prices will move up or down and some developers may lose money from time to time if they get their market calls wrong, but long term the only thing that will cause a sustained reduction in land prices is the removal of government input taxes, fees and charges.

Good luck with that, governments are way too comfortable with their property income to give it up.
Any expressed market opinion is my own and is not to be taken as financial advice
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lulldapull
3 Nov 2014, 06:20 PM
That's it MMM................that has already done it!

No doubt in anyone's mind...............unless he's of course retired with a pile of cash or fucking retarded!
Getting there.....

In September, house prices fell in 69 of the 70 Chinese cities monitored. It could be contagious.

In some capitals sales are down 11% in the first nine months of this year.


http://mobile.bloomberg.com/news/2014-10-23/china-home-price-drop-spreads-as-easing-fails-to-halt-downturn.html

As for wages here, only in September coca cola dropped wages by 38% for new workers doing the same job and also a two year wages freeze for current workers. These current workers will slowly get laid off for the 'new' cheaper worker.

And job losses, well we recently hit twelve year highs there too. And thats with all these construction jobs increasing in record numbers with the building boom. And mining jobs are heading downhill fast as is just about every other sector of the economy. And ford and holden have not even closed yet, so massive job losses coming there aswell.


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3 Nov 2014, 04:52 PM
The collapse of China, along with falling jobs and wages might do it.
There was this article posted earlier this year titled, ' a sign that chinas economy is on the verge of collapse', and house prices there have been dropping ever since.

http://www.abc.net.au/news/2014-03-31/a-sign-that-chinas-economy-is-on-the-verge-of/5357700
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