Affordability Threatens Housing
Home ownership has been the cornerstone of the "Great Australian Dream"-the dream that represents a measure of success and the attainment of a safe shelter to raise a family and lead a gratifying life. For years, housing has also been viewed as a way to accumulate wealth that can serve as a supplementary source of income, collateral for business ventures, or an investment cushion for old age. Yet, despite the aspirations and the rising incomes and wealth of most Australians, the quintessential dream has been slowly getting out of reach for many. This is surely the case with the Melbourne's housing market.
Over the past several years, housing affordability has deteriorated dramatically so as to become a major source of concern and frustration. The index that measures affordability is hovering around its record-low levels. The percentage of dwellings in Melbourne that may be accessible to the median young households has been declining since the late 1990s. Currently, these households can afford less than a third of homes sold in the market, which compares with a long-term average of around 45 per cent.
While more than two thirds of 8.5 million Australian households either own their home or are paying a mortgage on it, surging home values, rising interest rates, and the shortage of housing in attractive locations are preventing many prospective buyers from obtaining homeownership. The problem is so acute that it has prompted some prominent economists and investors to call it a housing bubble that is ready to implode. They speculate that home prices will have to fall by as much as 40 per cent in order to get back to trend, or to levels considered sustainable and affordable.
Indeed, prices of housing in Australia have increased considerably over the past decade. Currently, they are equivalent to about seven times the gross annual income in the country, which is more than double the ratio in the 1990s. This ratio is also the highest among the industrialized countries. A typical single-family home in Melbourne currently costs some $559,000, which is 2.5 times the value at the beginning of the decade and 24 per cent more than a year ago. These rates have exceeded substantially the rates of growth of the median household income over the same period. Therefore, even as most Australians have become better off, their ability to purchase a home has been declining.
On the other hand, rising mortgage rates have done little to slow down the surge in home prices. Historically, a decline in mortgage rates between 1990 and 2000 helped improve affordability. Yet, even increases in mortgage rates throughout most of the current decade, which adversely affect affordability, have done little to slow the housing boom. Consecutive hikes in mortgage rates since October 2009 have added about $6,500 to the cost of servicing the average mortgage. Nevertheless, over the same period, home prices in Melbourne have increased nearly 20 per cent.
Concentration of housing in the high-density urban zones, with a reduced availability of land for construction, is the crucial reason for the surge in home prices and for the low affordability. Land scarcity in Melbourne has produced a major housing shortage. Amid a 20 per cent increase in demand, this shortage is projected to grow substantially by the end of the decade. Other things being equal, this suggests that the robust demand will continue to keep the pressure on prices and thus on affordability.
Severely eroded affordability raises the red flag about a possible slowdown in the Australian housing market, including the local property market in Melbourne. However, the robust household formation and strong local labor markets should sustain the underlying demand for homes. In such an environment, any improvement in affordability is a welcome relief that can improve the chances of many aspiring Australians to realize their dream of homeownership.
