Land Scarcity Fuels Booming Prices
Surging housing values in Australia have been the focus of an extensive debate. Many have attributed the boom to the strong economic performance that has boosted personal incomes. Others have credited the strong growth to a robust demand from immigration and household formation that faces chronic undersupply of housing units.
A closer look at these fundamentals reveals a startling revelation. Land scarcity, especially in the urban clusters such as Melbourne and Sydney, lays at the crux of the boom. Given that the scarcity is persistent, the run-up in housing prices is likely to continue.
Many local markets in the nation, including that of Melbourne, have been in a chronic disequilibrium. The primary reason for this is the specific nature of Australia's housing market. In Australia, two thirds of the population live on 0.5 per cent of the land. Population density in the metropolitan Sydney and Melbourne of 354 and 397 inhabitants per square km, respectively, dwarfs the national density rate of 2.9 inhabitants per square km.
The low overall distribution of population implies a high concentration of jobs and community infrastructure in the noted metropolitan clusters. These factors are the reasons why housing demand has focused on the major metropolitan zones, including Melbourne.
Yet, the booming demand has not been matched with a higher supply of housing units. New construction has been severely constricted by the scarcity of land for construction. Annual land release rates in the major population clusters have been dropping consistently. Currently, they are about a fifth of their average in the previous decade. This trend has put a tremendous pressure on prices, making the land price boom the largest contributor to the overall appreciation in housing values.
Since mid 1990s, the cost of construction materials has been increasing 3.5 per cent per year, while land prices have been growing on average by 12-14 per cent per year. Looking specifically at Melbourne's property market, a recent study concluded that land prices for an average newly constructed home increased 14.5 times between 1973 and 2006.
The cost of construction over the same period increased 7 times. However, when measured in the inflation-adjusted terms, growth in land prices appears to be the only contributor to growth in home prices in the observed period. As a result, the cost of land as a share of the total cost of a house in Melbourne has increased from 30 per cent in the 1970s to more than 80 per cent in the late 2000s.
Three factors have contributed to this situation. State and local governments' zoning processes tend to be complex, long, and costly. They delay land releases and add to the overall cost of development and housing. Developer infrastructure charges, up to $60,000 per lot, appear excessive and can restrict supply. These costs are sometimes exaggerated by the shortage of skilled construction labour. Together, these factors restrict new deliveries of construction land, maintaining the pressure on housing.
Estimates indicate that housing demand will remain robust in the next decade, especially in Melbourne, which is expected to lead the nation's housing growth with a 20 per cent increase. Yet, this compares to a housing deficit that will more than double over the same period.
As the land scarcity persists, housing prices in Melbourne will remain under pressure. The same trend is expected for most major urban clusters across the nation.
