Australian property price catastrophe if China’s growth stalls: S&P

Australian house prices could decline by more than 5% in 2012 if China’s economy experiences a soft landing with GDP growth at about 8%, according to Standard & Poor’s.

But in the event of the less-likely scenario, under which China’s economy slows to 5% GDP growth, Australia could be sent into recession.

China’s hard landing likely flow-on effect of higher unemployment could trigger a sharp decline in Australian house prices of 20% or more, according to S&P who rate the prospect of a hard landing happening at 10%. The other scenario – a medium landing – would trigger a 10% price fall, it envisaged with the prospect of a medium landing happening given at 25% chance.

S&P analysts Craig Parker and Vera Chaplin see a soft landing as the most likely scenario.

The report noted the insatiable demand for commodities from China and other Asian trading partners has kept Australia in good stead relative to most other Western economies during the current global economic slowdown.

While China’s growth slowed to 9.2% in 2011 from 10.4% in 2010 due to a weaker global economy and efforts by the Chinese government to control inflation, Standard & Poor’s expects China to experience a soft landing in 2012, with forecast GDP growth of 8%.

“Based on this scenario, we expect the Australian economy to continue its moderate growth path and that the performance of the Australian housing market will soften further but not experience a sharp decline given the sound economic outlook,” Parker and Chaplin say.

“In this scenario, we expect the impact on both mortgage defaults and loss-given default to be muted and remain at relatively low levels as we expect the unemployment rate to increase marginally and property price decline to continue its recent softness.”

The report indicated that although Australian residential property prices have softened with Australian capital city dwellings losing about 4.8% of their value in 2011, a supply shortage and demand-side factors (such as falling mortgage interest rates, government assistance to first-home owners, strong labour market conditions and population growth) have prevented a more precipitous decline in asset prices.

But any increase in the unemployment rate and weaker or negative growth in household disposable income are likely to be the key drivers of mortgage default in the coming years.

“Sharp increases in unemployment will be likely if Australia experiences a significant economic slowdown,” the report says.

“Rising unemployment has been a strong precursor to mortgage defaults as evidenced in the early 1990s recession.”

It notes mortgage default rates can be masked in a strong economic environment with vibrant property prices, as borrowers have more options to refinance or adjust their financial position by downsizing their debt exposures.

The report noted that the credit quality of most Australian residential mortgage-backed securities (RMBS) was likely to remain stable, despite renewed uncertainty over the global economic outlook and growth prospects for China.

“However, subordinated RMBS could be vulnerable – with possible downward-rating biases – if China were to experience a harder landing, thereby adversely affecting Australia’s mining sector and the overall economy.”

While Standard & Poor’s Ratings Services expects the performance of the housing market and housing loans to weaken, the credit enhancement available to Australian senior RMBS is likely to withstand a worsening of portfolio credit quality.

Australian subordinated RMBS would be sensitive to the effect of a downturn on the financial strength of Australian lenders mortgage insurance providers.

This article first appeared on Property Observer


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