In a landmark speech, Reserve Bank of Australia governor Philip Lowe has outlined his nightmare scenario of a property market crash, as well as his favourite solution to the affordability crisis.
The RBA is not overly concerned that a “severe correction in property prices” would trigger a banking collapse, as happened in the US in 2008-09, Dr Lowe said on Thursday.
No, he said he was far more worried that Australians would bring the economy to a grinding halt by curbing their spending.
“The Australian banks are resilient and they are soundly capitalised. A significant correction in the property market would, no doubt, affect their profitability. But the stress tests that have been done under APRA’s [Australia Prudential Regulation Authority’s] eye confirm that the banks are resilient to large movements in the price of residential property,” Lowe told the Economic Society of Australia.
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“Instead, the issue we have focused on is the possibility of future sharp cuts in household spending because of stretched balance sheets.”
Household debt is “high” relative to incomes, making it likely that many Australians would respond to a market correction with a “sharp correction in their spending”, in an attempt to pay down debt.
“An otherwise manageable downturn could be turned into something more serious.”
The golden solution
Dr Lowe’s speech contained a comprehensive answer to what has caused house prices to skyrocket, at least in Sydney and Melbourne, and what should be done to fix it.
The answer was unlikely to be comforting for either the Liberals or Labor, as it touched on both supply and demand-side fixes.
He dismissed allowing young Australians to use their superannuation for a deposit. “You don’t address affordability by adding to demand.”
But he also downplayed the importance of tax policies. “The best housing policy is really a transport policy,” he said during a question-and-answer session at the end.
In the speech itself, the Governor blamed the house price explosion on an encyclopaedic list of factors, including an increased ability to borrow via financial liberalisation and lower interest rates; and supply constrained by zoning issues, geography and, crucially, inadequate roads and trains to link outer suburbs to the inner city.
He also pointed to Australians’ preference for big houses in the big cities; slow income growth; stronger-than-expected population growth; and the rise of investors.
While much has been made of the crackdown of APRA and the Australian Securities and Investments Commission on bank lending to investors — indeed, constraining investor demand is the centrepiece of Labor’s solution — Lowe placed far more emphasis on supply issues.
“This borrowing [by investors] is not the underlying cause of the higher housing prices. But the borrowing has added to the upward pressure on prices caused by the underlying supply-demand dynamics. It has acted as a financial amplifier in some cities, adding to the already upward pressure on prices.”
The Governor noted in passing that tax policies (presumably negative gearing and the 50% capital gains tax discount) would “have an effect”, but he was more optimistic about faster rates of home-building, better transport infrastructure, and an eventual rise in the RBA’s cash rate.
“Increased supply and better transport could be expected to help address the ongoing rises in housing prices relative to incomes. These changes and some normalisation of interest rates over time might also reduce the incentive to borrow to invest in an asset whose price is rising strongly.”