3 devastating ways to hit house prices

In a recent OneRoof column I wrote about the futility of government measures to try to cool the housing market and bring down house price inflation, and I explained why the median New Zealand house price will broadly double over the next seven to 10 years despite any initiatives that the Government might introduce to stop this happening.

Despite this, Finance Minister Grant Robertson has written to the Reserve Bank Governor Adrian Orr to “seek his advice on possible ways the Reserve Bank can support the Government to meet its economic objectives, in particular with relation to house prices”.

Robertson goes on to ask Orr whether the Reserve Bank should “include stability in house prices as a factor for consideration in the Remit when formulating monetary policy”.

Politically, it’s a clever letter. The Reserve Bank is independent and doesn’t have to take guidance from the Government — so if Orr ignores the letter, Robertson can claim that he did his best within the constraints of his powers.

If Orr acts, and fails, Robertson can distance the Government from that failure claiming that the responsibility lies with Orr.

However, regardless of how it now plays out, and regardless of what measures, if any, the Reserve Bank puts in place, there’s one thing of which you can be certain. It won’t work — and house prices will continue to increase over the next seven to 10 years.

Fifty years of housing data tells us that house price growth has followed a very predictable pattern since the 1980s and that, other than a 38 per cent drop in the mid to late 1970s, the New Zealand housing market has never crashed.

Instead, it simply flattens off for three to four of those 10 years and takes a breather before the next boom starts, just as Auckland has recently done.

When I recently pointed this out the immediate reaction from some was that house price inflation could, indeed, be controlled if only the Government would focus on (insert your solution of choice). Based on this feedback, it would appear that re-introducing the loanto-value-ratio restrictions is a favourite among many market watchers, but the most popular solutions by far are those that focus on supply, which is a broad description covering both the number of new homes being built and the number of houses available for sale at any given time.

The theory is based on traditional economics and says that the price of goods will come down if the available supply of them goes up.

However, the problem with applying this theory to the New Zealand property market is that house prices have broadly doubled every decade, even during periods when supply wasn’t an issue, and even during times when net migration was negative and we were losing more people than we were gaining.

It’s also worth noting that prices in Auckland, the part of our country where the supply issue is most pronounced, were actually flat between 2017 and 2020, despite the supply problem actually getting worse. This phenomenon is entirely consistent with the three to four flat years of a 10-year boom cycle, but inexplicable if you’re trying to explain house price behaviour based on the supply theory.

But am I really right in my claim that there is nothing that any government can do to halt house price inflation?

Technically, no. There are at least three things a government could do to stop house prices going up — and even bring them down — but their economic consequences would be so devastating that no government in its right mind would ever seriously contemplate them.

But if economic impact wasn’t a concern — what could the Government do?

1. It could nationalise housing

Nationalisation is the term used to describe government confiscation of property and refers to times when the State takes ownership of property, usually without any payment. These days we typically associate the term with

Communist regimes — but it was tried in post war Britain in the late 1940s with devastating consequences to that economy which weren’t really resolved until the Thatcher reforms of the 1980s. Nationalising our housing estate would certainly kill house price inflation because all housing would be state owned — but it would be difficult to think of a solution which is more at odds with the Kiwi culture of private home ownership.

2. It could legislate to stop house prices increasing

If you’re under 35, the idea of passing a law to outlaw price increases might sound ridiculous — but we actually tried it in the early 1980s! Between 1982 and 1984, National Prime Minister Rob Muldoon legislated a wage and price freeze in an attempt to get high inflation under control. The effect was predictable and disastrous and provided a textbook lesson in why using laws to achieve economic outcomes is almost certainly doomed to fail.

3. It could dramatically raise mortgage interest rates

If you believe, as I do, that the steady reduction in the cost of mortgage finance over the past 40 years has been the major driver of our housing booms — then logic suggests that increasing interest rates would have the opposite effect. And it would — but at a very heavy price. Homeowners would be asked to trade capital growth for stagnant (or falling) house prices and higher mortgage repayments; the value of the kiwi dollar would increase, which would put pressure on our export sector and make it harder to sell our goods overseas; and the cost of borrowing money would stifle business growth, risk taking, and consumer spending throughout the economy.

The way our property market works isn’t perfect — but it certainly beats any of the alternatives.