By Bernard Hickey
Real Estate Institute figures out this week confirmed the Auckland housing market is running hot through the winter and that the heat from that 'halo' is now spreading around the country.
Queenstown house prices, for example, were up 40% from year ago in May. Auckland's craziness is erupting in the strangest places. Prices in Levin are up 36%, while Upper Hutt rose 23%. The median price in Wellington rose 21.6% in the single month of May and there are anecdotes galore in the capital of agents fighting over listings and houses being sold within days.
The immediate reaction is that this can't last and eventually sanity will prevail, but it's worth carrying through with a thought experiment that looks at some of the key drivers of the housing market right now - interest rates, migration and housing supply.
Just imagine if interest rates kept falling, migration stayed at record high levels and Auckland's housing shortage continued to grow at a rate of 5,000-10,000 per year, as it has done for the last four years.
The Reserve Bank included a scenario in its Monetary Policy Statement last week that would see it cut the Official Cash Rate from 2.25% to 0.75% by 2018 if the New Zealand dollar stayed at its early June levels. The currency has actually risen another 3% since then, increasing the chances the Reserve Bank will have to slash interest rates to meet its inflation targets.
An OCR at 0.75% would push fixed mortgage rates much closer to 3% from just over 4% at the moment. In Auckland, for example, home buyers could then afford to pay close to $1.5 million for a median priced house without increasing the share of their income that they have to pay out in interest costs. That's up from just under $1 million now.
Everyone is forecasting that net migration will drop from its current record highs over the next couple of years, but what if it doesn't? It hasn't over the last couple of years when both the Reserve Bank and Treasury have forecast falls. Australia's jobs market needs to improve, the flow of foreign students needs to slow and the surge in working holidaymakers needs to stop for net migration to drop back. There are few signs of those things happening at the moment.
There are also few signs that Auckland's house-building shortfall is about to improve any time soon. Building consents have stagnated at an annual rate of just over 9,000 since October and there is enormous uncertainty over the zoning rules for house-building while the Unitary Plan is being finalised and the Government and Council cannot agree on how to fund Auckland's infrastructure. Auckland needs to be building at least 15,000 houses a year to eat into its shortage, which may already be well over 50,000 houses.
Those scenarios could easily power Auckland house prices another 50% higher over the next two years without debt stress rising, which would further brighten the 'halo effect' through the rest of the country.
So what could Governments and voters do to stop that happening?
1. Tighten the lending rules - The Reserve Bank could lower the current 70% loan to value limit for Auckland rental property investors to 60% and extend the 70% limit for Auckland investors to the rest of the country. It could also limit new lending to rental property investors to no more than six times the rental property's income from rent and exempt new buildings from that rule. That would stop the leveraged buying of existing homes by landlords overnight.
2. Unleash the building - The Auckland Council could agree to a new Unitary Plan that allows a lot more building outside the Rural Urban Boundary and a lot more building of affordable one and two bedroom apartments in three storey apartment buildings close to the CBD. The Government could kick-start the building of these homes by commissioning dozens of these buildings in Auckland from developers and builders and pledging to sell them on Kiwibuild-style to first home buyers and investors, who would be exempt from the lending restrictions. They could be built on Crown land. There is plenty of this land in Auckland.
3. Remove the tax incentives for landlords - As Treasury has previously proposed, the Government could remove the tax deductibility of interest payments by rental property investors and/or extend the two year bright line test for taxing the capital gains of property traders out to five or ten years. As the Tax Working Group also recommended, the Government could signal a new tax switch where revenues from a 1% land tax would be used to cut GST or income taxes.
4. Tax the non-resident buyers - As has been done in the last couple of years by the Australian states of New South Wales, Victoria and Queensland, New Zealand could impose a stamp duty of 3-5% for non-residents buying property here, and impose an ongoing annual land tax of 1-2% on these non-resident investors. This would not breach our trade agreements and simply bring us into line with Australian practice. It would also remove our current 'outlier' status of being the only destination in the developed world without a capital gains tax, a stamp duty, a land tax or restrictions on foreign buyers.
5. Incentivise local infrastructure investment - The Government could make it much more attractive for Councils to invest in the infrastructure needed to underpin growth in housing supply and cities generally. It could allow congestion charging on Auckland's motorways that increases the revenues needed to invest in public transport. It could also pledge to allocate some of the extra GST and income taxes from population growth to service the debt on infrastructure bonds it issued to pay for Council infrastructure.
All of these proposals are within the policy mainstream. They have already been recommended by the Government's own Tax Working Group, The Treasury or the Productivity Commission, or have already been adopted in Australia. The Reserve Bank is already planning the first option.
So what's stopping Governments and voters except for the current addiction to unending tax-free capital gains on rental property?
A version of this article was also published in the Herald on Sunday. It is here with permission.
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