Workers flee Sydney's unaffordable housing

Macquarie Bank analyst Rory Robertson estimates that house prices have risen 75 per cent faster than wages over the past two decades. The proportion of owner-occupiers in the 25 to 35 age group dropped by 10 percentage points in the last 20 years and the rate for 35 to 44 year olds is edging down. For most of the 1990s, says Robertson, first-home buyers accounted for more than 20 per cent of home loans in Australia but by 2004 it had fallen to just 12.6 per cent, and even less in Sydney.

The most widely cited measures of home loan affordability in Australia are the Real Estate Institute of Australia home loan affordability indicator, the Commonwealth Bank of Australia-Housing Industry Association housing affordability index, and the BIS Shrapnel home loan affordability index.

A Reserve Bank research note on these measures last November said “there has been an appreciable deterioration in affordability since 2001”. It was considered “significant that in 2006 the affordability indicator had fallen to a level comparable to that reached in 1989, despite the fact that interest rates in 2006 have been very much lower than they were in 1989”.

The news is no better for renters. Sydney’s rental vacancy rate is running at 1.5 per cent, the lowest in 20 years. And rents are predicted to rise by 20 per cent this year. Landlords never had it so good.

Few now deny that housing affordability is a serious social problem, particularly in our larger cities. However, there is heated disagreement about its causes, and how to respond. In general terms, the debate is between those who contend that house prices are essentially cyclical and others who argue that they reflect structural distortions.

The NSW Government, for example, views Sydney’s current level of affordability as a function of last year’s interest rate hikes. These have bumped up borrower repayments and flattened the property market by scaring off investors. Predictably, the NSW Opposition says state-based property taxes (especially land tax) and levies are the killers. The underlying assumption, in both cases, is that property markets are inherently cyclical, so conditions for buyers and renters will improve once monetary policy is loosened or tax rates are adjusted.

The cyclical explanation is attractive to those with a vested interest in the prevailing system of land zoning, mortgage lending and property taxation. Left-leaning academics and environmentalists, who harp on about the boom-and-bust pattern of capital accumulation, tag along.

Monetary policy, taxes and levies do have a significant impact on affordability. The federal government can’t just blame the states in this respect. But the factors driving housing values are more diverse, complex and interrelated than the cyclical interpretation suggests. A complete explanation must also focus on the supply side of the equation, particularly the supply of land, which - for many - is the real lynchpin of the prevailing system.

One leading member of Australia’s structural camp, Alan Moran of the Institute of Public Affairs, estimated (PDF 2.2MB) that “the land component, which in 1976-77 comprised 32 per cent of a new home in Sydney, in 2005 comprised 62 per cent”.

Moran is in no doubt that this escalation relates “to the squeeze on land availability originated in misplaced desires to prevent “urban sprawl”, while noting that “building costs have been stable”. If land prices remained stable or increased only at the rate of underlying inflation, says Moran, “average new house prices would have been 40 per cent lower than is presently observed”. This is a powerful point considering that the median house price in Sydney was $520,300 in September 2006.

Reports and studies highlighting the impact of land supply policies on affordability are starting to flow from housing and property industry associations and analysts. The most influential catalyst for discussion remains the Annual Demographia International Housing Affordability Survey (PDF 471KB), the third edition of which was released last month. The survey measures affordability across 159 markets in Australia, Canada, Ireland, New Zealand, the United Kingdom and the United States by means of the “median multiple” (median house price divided by median annual household income).

The benchmark for affordability is a multiple of 3.0, where the median house price is three times the median household income. Consequently, the survey assigns Sydney (8.5), Melbourne (6.6) and Perth (8.0) to the category “severely unaffordable” (5.1 and over). Sydney is the eighth most unaffordable market surveyed, less affordable than New York and London. Australia’s national median multiple is 6.6, more than double the affordable benchmark.