Property Institute chief executive Ashley Church warned today of an apartment bubble as the likely consequence of 2 seemingly unrelated responses to Auckland house price inflation.
First came the Reserve Bank’s discussion paper early this year, in which it outlined a range of prudential tools it was considering using to cool house prices. Among these was a suggestion that the bank was investigating loan:income restrictions similar to those recently introduced in England & Ireland. These restrictions would cap the amount that could be borrowed to a percentage of the income of the borrower.
Second, late last week, came news that several major banks were considering dropping the minimum deposit required to buy an apartment to 15% (down from 20%). The banks can do this because of the exemption to the current loan:value clampdown which allows lending beyond 80% of value if the property being bought is new.
Mr Church said the combination of these initiatives would trigger the law of unintended consequences and would almost certainly lead to an apartment bubble – particularly if the Reserve Bank followed the example of England and restricted mortgage loans to 4.5% of income.
“The median Auckland household income is $76,500 – so if we followed the Brits we’d be restricting the average Auckland household to a mortgage of not more than $344,250.That will make apartments look very attractive – particularly if the banks also require a lower deposit to buy these.”
Mr Church outlined a sequence of events he thought was likely to lead to an apartment bubble:
- The Reserve Bank restricts mortgage loans to a percentage of household income – effectively making the purchase of freestanding residential homes almost impossible for all but the very wealthy
- With median household incomes of just $76,500 – homebuyers flock to the apartment market to find properties which comply with the new rules
- The relaxed deposit rules, by the major banks, allow buyers to borrow a little more if the apartment is new – (on average, a little over $400,000 if we adopt the British formula) – and this combination fuels a new wave of apartment building & streamlined marketing programmes designed to entice buyers
- Property investors – many of whom have also been caught by the new rules – also start buying apartments in large numbers
- The combined effect of this new wave of buyers quickly pushes up the price of apartments – fuelling an apartment bubble
- Perversely, the quality of new apartments suffers as developers focus on the low end of the market to appeal to as wide a range of potential buyers, within the Reserve Bank rules, as possible
- Meanwhile, the cost of renting freestanding homes in Auckland also increases as demand outstrips supply due to the absence of traditional property investors buying these types of properties
- Within 7-10 years Auckland becomes a highly intensified city with large numbers of low quality apartments dotting the landscape and freestanding homes becoming the preserve of the well-off & wealthy renters.
Mr Church said he was aware that a focus on intensification through building more apartments was consistent with the Auckland unitary plan and that some might see this outcome as a good thing – but he noted that this provision was also strongly rejected by a large number of Aucklanders and shouldn’t be forced on the city by the Reserve Bank.
“The drive for intensification is based on a political ideology and is rejected by a large number of Aucklanders. It should only happen if Aucklanders want it.”
Mr Church also conceded that the outcomes might be different if the Reserve Bank imposed a significantly higher loan:income cap, but said a greater focus on apartment buying was still an inevitable outcome of such a cap.
He said the exact sequence of events might differ from the one he had outlined, but the eventual outcome “is very predictable to those who know the market. There’s no rocket science in this – if you close one door and make going through another more attractive, the result is going to be pretty obvious.”
Attribution: Institute release.