Economic Growth Of Housing Price In Australia And Melbourne

Supply and demand Concept

Discuss about the Economic Growth of Housing Price.

This article summarizes the various issues that are influencing the long-run growth of housing price in Australia. From the duration of 1980s, inflation of housing prices largely followed the prevailing interest rate of the economy that was comparatively high and unstable. Subsequently, the monetary deregulation of the mid 1980s and deflation in the period of the beginning year of the 1990s led to easier access finance underpinned a secular increase in households’ debt-to-income ratio that was closely associated with high housing prices from the early 1990 to mid 2000. This article is explores the long-run trends in the housing prices at Australian real estate market. In this, the changes in the prices of houses for long run are explained through the application of primary drivers of housing price growth. This article includes an analysis over the housing price growth in long run through understanding of fundamental drivers. Below are the main messages of this article:

Supply and demand Concept: The main focus of this article is to understand the house price growth in long run through applying the law of demand and supply. By applying this law, the growth in prices of house is explained. It is concluded that gap in demand and supply is the key aspect that has played prominent role in making certain changes in the housing prices at Australia. By applying this law, house prices movement in long run is determined significantly. Stock-flow model is considered highly important to study both demand and supply side factors for understanding the long-run trend in the housing prices at Australian real estate market. 

Demand side factor: There are several factors identified significant in terms of increasing demand and consequently housing prices in long run at Australia. Deregulation of financial sector, low inflation rate and low interest rate have played critical role in increasing access of Australians over the houses that caused rise in prices.  Apart from this, population growth is also determined as an important factor, which has caused an increase in the housing prices in Australia. In Australia, natural increase in the population along with an increase in net immigration is a considerable cause of high housing prices. Similarly, cyclical factors mainly monetary policies has played critical role in driving the housing prices in short run.  

Supply side factors: This article explains supply side factors, which has played critical role in influencing the general price level of the houses in Australia for the long run. The influence of increasing demand over the prices largely depends on the response of supply. If supply also rises with the demand than it is less probability of increasing prices. In short run, it is difficult to improve supply as per the changes in the demand due to the complex nature of developing new dwelling and houses. A considerable time and fund are critical to construct more houses, which is responsible for pumping new supply in the market. An increase construction cost and improvement in the quality of infrastructure development have caused stability in the number of completed dwellings over the past thirty years. This article indicates that supply of house in long run was low than the demand that has caused rise in housing prices in the significant manner.

Demand side factor

Debt-to-income ratio: This article also examines the relationship between debt-to-income ratio and the rise in housing prices at Australia over the last the three decades. It is identified in this article that low inflation raised the real income and consumer confidence that has made positive impact on the debt-to-income ratio. The growth of housing prices in Australia is closely associated with the rise in debt-to-income ratio. People showed a tendency to offset their less ability to purchase houses by taking high debt than their income, which have played critical role in strengthen the demand and consequently prices of houses in Australia over the last few decades.

Thus, the above messages are provided in this article by applying range of economic concepts to understand the factors for driving housing prices in long run within the Australian real estate market.

The housing prices in Melbourne are overheated in the recent years like other commodity prices, which are primarily determined by the demand and supply factors. The different factors that are responsible for growing housing prices in Melbourne are discussed as below:

At any level of price, lower interest rates entail with lower mortgage of repayment which attracts the borrowers to borrow more money. This causes the demand of housing has increased and housing prices is going further high. Because the lower interest rate increases the flow money in economy and increases the demand of assets. On the other hand, if the interest goes up than housing demand will ease and the prices will remain stable. In Australia, the interest rates are low, which increases the demand of money for the borrowers to invest in property. This leads to the rise in housing prices in Melbourne. In Australian economy, the interest rates cut down from 1980s through the global economic recession (Yates, 2011). During 1995-96, there was a moderate rise in interest rate and after that it also fell and remained continue lower till recent. Lower interest rate contributed a lot in increasing housing prices over past years in Melbourne. Due to the lower interest rate household debts to GDP in Australia has been increased, which is represented in the below graph:

The above graph presents that the household debts to GDP is continuously increasing from 1995s due to lower interest rate. It presents that the demand of houses in Melbourne is increasing because the low interest rate has increased the capacity of buying houses.

Supply side factors

Since 1995, investment in housing in Australia has increased, which has become an important driver of increasing house prices. The Reserve Bank of Australia pointed out that since 2001 the investors had increased the continuing price rise in housing market, which is supported by liberal tax benefits. In 2002, the loan approvals for investment grow by 113 percent against 48 percent for the vendor residential (Rahman, 2014). The socio-demographic factors, tax benefits, increasing rental income, institutional development, and broader expansion in economy and capital market have contributed in increasing investment demand for housing. Moreover, the investment in property is preferred as a secure and risk free investment, which has increased the demand and price of houses in Melbourne (Hensher et al, 2012).

The increasing need of housing in Melbourne is not based on the provisional factors but substantially based on shifting of population. Melbourne is an industrial and educational hub, which attracts to the immigrants for investment and high education. These immigrants need to houses for living but Melbourne’s building industry is not capable to construct enough housing units per annum due to lack of qualified people, and building permit process. In Melbourne, the demand is estimated 170,000 housing units per annum but supply is 140,000 housing units per annum (Sweeney, 2016). Furthermore, it is observed that the middle household size is declining due to boost in single person and single parent households that influenced the demand of new houses. Overall, the increased population and lesser households implied an increasing demand of housing, which is known a major determinant of increasing house prices. Due to increased demand and lower supply, the prices of houses are increasing continually in Melbourne City. As a result, it is predicted that the prices of houses and apartment will continue to rise over next 3-4 years and more.

There is a positive relation between housing demand and household income. In Melbourne, the household income is increasing rapidly over the time. In 2005-06, the household incomes are 10% higher in comparison of 2003-04 and higher than 34% in comparison of 1994-95. This increasing household income or economic growth increases the wealth of an individual and capability of investment in property (Rahman, 2014). Generally, in every society, Housing is considered as a major store of wealth, which is called ‘wealth effect’ and leads to an increase in expenditure. As a result, economic growth makes an individual housing affordable that supports housing prices through a self-reinforcing series.

Debt-to-income ratio

Impacts of buyers tax on the equilibrium housing prices, consumer surplus, producer surplus, and total surplus (or social welfare)

The effect of tax on the supply-demand equilibrium housing prices is to shift the demand for houses in Melbourne. It is determined by subtracting the before tax demand with the before tax supply (Varian, 2014). The following diagram shows the effects of buyer’s tax on the equilibrium housing prices:

From the above diagram, it can be exhibited that quantity traded before the tax imposed has denoted as qB. But, when the tax is imposed by the government on housing, then the buyer must pay the higher prices due to increase in the cost of housing. And, this amount will be equal to the tax. Moreover, the unique quantity is denoted by qA and the price that buyer pays is denoted as pD. Further, the seller receives that amount is deducted from the taxes and it is shown as pS.

Following are another diagram that shows the impact of buyer’s tax on welfare:

Note: C+E depicts the fall in total surplus 

In addition to this, it is analyzed that buyer taxes on housing prices have a negative impact on the consumer surplus, producer surplus, and social welfare. In this way, it is stated that consumer surplus falls because the prices of housing for the buyers has risen in Melbourne. Further, producer surplus falls due to increasing in the cost of goods and services. Further, the difference is demonstrated by shading and it shows the lost gain from the sale of the unit which is not traded due to buyer’s tax (McAfee and Lewis, 2015). It is also called deadweight loss because it determines those trades that have not been done due to the tax burden on buyers. It is measured by subtraction of the value of buyers from the cost of the unit to the seller. Moreover, the net loss gains from the sale are depicted by the black point in the diagram.  Along with this, buyer’s tax has a negative impact on the social welfare because the demand for housing is low in the Melbourne economy due to tax burden (Canto, et al., 2014). Further, due to the tax burden, people do not create interest to buy the houses in Melbourne. As a result, it declines the total surplus in the housing market in Melbourne.

An increase in buyer’s tax will impact on both consumer and producer. If the buyer’s tax increases than the cost of the product will increase. It will not only decrease the surplus of customer but also the surplus of seller will remain stable (Castellucci et al, 2012). For example, the government increases the buyer tax of $1 on a product than the seller will take it from its customers. In this system, the surplus of the customer will reduce and the increased tax of $1 will be paid to the government. Therefore, the increased buyer tax will not be beneficial for the society.

Factors Contributing to Housing Price Growth in Melbourne

As sales tax, income tax, and corporate tax the buyer’s tax also raises the revenue of city government. This tax is charged from the customer on its total purchasing. If, the buyer’s tax on commodities increases than the revenue of the government also increases (Mankiw, 2012). For example, when the government increases $2 as buyer tax from the customer on a particular commodity, than the government revenue will also increase on each purchasing unit of that commodity.

The government of UK, USA and Australia are having different housing policies such demand side policies and supply side policies to stabilize the housing market in their economy. These policies are discussed as below:

The central or local governments of UK subsidized to private housing builders to build more houses in that area where it is shortage of new houses. This government had also build public housing policies to avail low cost houses in large cities to low paid workers. However, it is a long process and takes many years to locate a territory and undertake the necessary planning for construction but it is an appropriate policy to increase the supply of new houses in the economy. Furthermore, the governments of UK and USA countries are relaxing house building regulations and giving concessions on taxes to builders to decrease the cost of construction and increase the affordable housing plans. These government policies may be helpful in increasing the supply of affordable houses in the country and can stabilize the bubbling prices of houses. The policy of tax concession may encourage the builders to build houses on less regulated territories, which are waiting to develop. Hence, these policies may boost the investment in new property and improve housing affordability through increase in supply (Hutchens, 2016).

The government or monetary authority of an economy may implement a series of policies including the change in deposit requirements, interest rate, affordability of housing, and variable rate of mortgages that can influence the demand of houses in a country (Kulish et al, 2012). At the time of purchasing, the house purchaser could be required a smaller or bigger deposit. In general trend, if the prices is much high than the buyer will require a larger deposit, which will prevent sub-prime buyers from the market who have not sufficient large amount. For instance, all new house purchasers could be forced to put down 25 percent of the total purchase price and remaining 75 percent will take out from mortgage. Further, on average basis the first time purchasers will put down 10 percent deposit and remaining 90 percent will be borrowed.

Interest Rate

Furthermore, the Bank of England increases or decreases the rate of interest if the prices of houses are contributing in general inflation and deflation. However, the government of UK not focuses directly on housing prices it considers only changes in interest rates if housing prices are going in inflation or deflation to stabilize the housing market. In addition, the borrowers might be switch from the variable mortgage interest rates to fixed interest rate that can impact the housing market of a country. Additionally, the government of Australia providing affordable housing policies to access sustainable and safe housing that contributes in economic and social participation of the country (Australian Government, 2016).

From the above discussion, it can be suggested that government of Melbourne should increase interest rate and also increase the supply of new houses through various housing plans. Because, if the interest rate increases than the borrower will take less money from banks and will invest less in property. Moreover, in Melbourne the supply of new houses is less rather than demand therefore the increased supply can manage the gap between demand and supply that may stop the increasing prices of houses. Hence, both the interest rate and supply policies may be beneficial to stabilize the housing market of Melbourne.

References:

Australian Government (2016) National Affordable Housing Agreement. [Online]. Available at: https://www.dss.gov.au/housing-support/programmes-services/national-affordable-housing-agreement (Accessed: 7 January 2017).

Canto, V. A., Joines, D. H., and Laffer, A. B. (2014) Foundations of supply-side economics: Theory and evidence. USA: Academic Press.

Castellucci, L., Markandya, A., and Piga, G. (2012) Environmental Taxes and Fiscal Reform. USA: Springer.

Hensher, D. A., Truong, T. P., Mulley, C., and Ellison, R. (2012) Assessing the wider economy impacts of transport infrastructure investment with an illustrative application to the North-West Rail Link project in Sydney, Australia. Journal of Transport Geography, 24(3), pp. 292-305.

Hutchens, G. (2016) Labor’s negative gearing changes would help stabilise housing market: McKell Institute. [Online]. Available at: https://www.theguardian.com/australia-news/2016/may/27/labors-negative-gearing-changes-would-help-stabilise-housing-market-mckell-institute (Accessed: 7 January 2017).

Kearns J and P Lowe (2011) ‘Australia’s Prosperous 2000s: Housing and the Mining Boom’, The Australian Economy in the 2000s, Proceedings of a Conference, Reserve Bank of Australia, Sydney. 2(2), pp. 73–100.

Kulish, M., Richards, A., and Gillitzer, C. (2012) Urban structure and housing prices: Some evidence from Australian cities. Economic Record, 88(282), pp. 303-322.

Mankiw, N. G. (2012) Essentials of Economics. USA: Cengage Learning.

McAfee, R. P., and Lewis, T. R. (2015) Introduction to Economic Analysis. [Online]. Available at: https://catalog.flatworldknowledge.com/bookhub/13?e=mcafee-ch05_s01 (Accessed: 7^th January 2016).

Rahman, M. M. (2014) Australian Housing Market: Causes and Effects of Rising Price. [Online]. Available at: https://www.researchgate.net/publication/228384641_Australian_housing_market_causes_and_effects_of_rising_price (Accessed: 6 January 2017).

Schwab, A. (2016) The property market is completely bonkers and so are you to buy into it. [Online]. Available at: https://www.crikey.com.au/2016/07/29/australias-property-market-in-mother-of-all-bubbles/ (Accessed: 6 January 2017).

Sweeney, N. (2016) Why Melbourne’s Properties Will Keep on Rising. [Online]. Available at: https://www.yourinvestmentpropertymag.com.au/market-analysis/why-melbournes-properties-will-keep-on-rising-79693.aspx (Accessed: 6 January 2017).

Varian, H. R. (2014) Intermediate Microeconomics: A Modern Approach: Ninth International Student Edition. USA: WW Norton & Company.

Yates, J. (2011) Housing in Australia in the 2000s: on the agenda too late?. In The Australian Economy in the 2000s, Proceedings of a Conference, Reserve Bank of Australia, Sydney, 2(3), pp. 261-296.