COVID-19 has impacted many of the big, fundamental drivers of property markets in Australia. There is potential for this to have a lasting impact, which could be good news for the chronic affordability issues in the residential market.
A history of housing affordability in Australia
For years Australia has suffered from poor housing affordability. According to the 2020 Demographia Housing Affordability Survey, the multiple of median house prices to median annual incomes is 5.9 times in Australia compared to 3.9 times in Canada, 4.5 times in the UK and 3.6 times in the US. Consistent with this the ratio of house prices to incomes relative to its long-term average is at the high end of OECD countries.
It wasn’t always so - Australia was once seen as a country with relatively cheap and affordable housing. Having a house on a quarter acre block was an essential part of the “Aussie dream”. But that changed last decade as average house prices went higher and higher relative to average incomes and this went hand in hand with a surge in household debt relative to income. There have been several cyclical downswings in property prices that have brought short term relief in terms of affordability – around the GFC when average capital city dwelling prices fell 7.6% based on CoreLogic data, around 2011 when prices fell 6.2% and in 2017-19 when prices dipped 10.2% - but they have been short-lived with prices quickly bouncing back.
The fundamentals driving property prices in Australia
There are a range of factors that contribute to the price and the price cycles in the Australian property market. It’s often easy to blame tax concessions or foreign buying for poor affordability – but factors such as those can’t be held accountable for a long, sustained pattern of unaffordability.
Rather the basic problem has been a surge in population growth from mid-last decade and an inadequate supply response (thanks partly to tight development controls and lagging infrastructure). Since 2006, annual population growth averaged about 150,000 people above what it was over the decade to the mid-2000s. This required the supply of an extra 50,000 new homes per year. Unfortunately, this was slow in coming. But with an insufficient supply response to surging demand, prices were able to stay elevated. And so poor housing affordability got locked in.
Each cyclical downturn in house prices has brought hope of a solution, but it was invariably dashed as the fundamental supply demand imbalance remained or re-established itself. The same looked to be applying more recently with average house prices surging 10% between June last year.
Reasons we may see housing affordability impacted in the long run
Knowing what the fundamental drivers of the Australian property market are, as well as the sustained patterns of unaffordability, you can see why the COVID-19 shock may change markets for the long run:
- The hit to economy from coronavirus is bigger than anything seen in the post war period. While most of the activity hit by lockdowns should bounce back once the virus is brought under control some things will take longer to recover (eg, travel and tourism), some will be permanently changed for ever (with eg, a big shift to on-line shopping, education, health care and watching sports) and businesses will use the uncertainty to accelerate cost savings. All of which will mean a long tail of unemployment. JobKeeper has shielded Australia from what otherwise would have been 15% unemployment in April and 11% unemployment now. But officially measured unemployment is still likely to hit 10% by year end and will probably have only fallen to around 9% by end 2021. This will likely result in more forced property sales and act as a drag on home prices, as income support measures and the bank payment holiday gradually wind down.
- Immigration has been a big driver of property prices and it’s taken a huge hit and may take a long while to recover. Thanks to travel bans, net immigration is likely to have fallen to just below 170,000 in 2019-20 and to around 35,000 this financial year from 240,000 in 2018-19. This is a huge hit which will take population growth in 2020-21 to just 0.7%, its lowest since 1917. This will reduce annual underlying demand for homes to around 120,000 dwellings, compared to underlying demand last year of around 200,000. This could result in a significant oversupply of dwellings, and in turn could reverse the years of undersupply that has maintained very high house prices since mid-last decade. A big cut to immigration is not something many other countries have to deal with, so their experience is not directly translatable to Australia. Of course, if the slump in immigration is just for a year, it wouldn’t have much lasting impact. And the return of expat Australians may provide a short-term offset. But with unemployment likely to remain very high for some time, it will be hard politically for the Government to quickly ramp up immigration to previous levels, even once it is safe to do so from a coronavirus perspective. After the early 1990s recession net immigration stayed low at around 90,000 p.a. until the mid-2000s. All of which points to a long period of constrained housing demand and hence more constrained house prices.
- A mass shift to working from home potentially has huge implications for residential property prices. Prior to coronavirus, working from home was only slowly creeping in. Now coronavirus driven lockdowns and social distancing has shown that its feasible for most white-collar workers and can be good for productivity. Of course, full time working from home does come with costs in terms of team cohesion, corporate culture, the development of younger workers and less opportunities for spontaneously exchanging ideas. And to be successful it does require children to be separately cared for as opposed to being at home. So, some sort of hybrid may become the norm – some at home all the time, some in the office all the time, but most doing half and half. And working from home works best in houses where there’s lots of room as opposed to apartments. All of which could revolutionise residential property demand - and from what I am hearing anecdotally maybe already is. Which will mean less demand for property close to the CBD, greater demand for property in suburbs, with a decent community and environment and increased property demand in regional centres. All of which could break down the dominance of the city with its expensive property. This would turn the trend of recent decades favouring more condensed living close to the city on its head. Some office property (and possibly also some retail property impacted by the shift to online retailing) could be repurposed for residential use, thereby boosting housing supply. By fostering decentralisation, a shift away from cities to regional communities could dramatically improve housing affordability over time.
We don’t expect the worst
The COVID-19 situation is ever-changing, and as everyone keeps saying – unprecedented. However, it’s important to remember we will go back to a semblance of normality at some stage. Not everything will be as it once was, and housing could be one of those things, but it’s not our base case that an outcome of this period in our history is a house price crash. Softer price gains over time, after an initial moderate hit, seems a more likely scenario.