Rising debt weighs heavily on any future boom
Many of us know people who have made small fortunes on property. After all, house prices rose 6 per cent each year in the boom years between 1995 and 2005.
Might this happen again?
There are entire industries - from real estate agents to mortgage brokers - that like to believe so.
Some of the less scrupulous operators even like to mention this boom era in their sales pitch, implying it may soon return.
While there are signs the housing market could be strengthening at the moment - prices are up 2.7 per cent nationally in the past year - a long-term view suggests we won't see a return to the boom days of old.
Why not? Perhaps the biggest reason is household debt.
There were several reasons prices rose so quickly in the past, but the big one was that people bid them up by borrowing more.
As this week's graph shows, we went from borrowing about 50 per cent of disposable income in the early 1990s to 150 per cent - where it has settled.
This increase occurred because we were taking out bigger home loans.
Such a staggering rise was only possible because debt became a lot cheaper, thanks to a one-off drop in interest rates, and competition in banking.
But both these factors are highly unlikely to be repeated, and here's why.
First let's look at interest rates.
In the early 1990s, the cash rate got up to 17.5 per cent, which severely restricted how much people could borrow.
Rates were so much higher because inflation had been running at around 10 per cent throughout much of the 1980s.
Over the 1990s, Australia became a low-inflation economy, and rates fell accordingly. These days, rates tend to fluctuate between about 7 per cent in boom times and 3 per cent when things are weak, as is the case now. The second reason borrowing became a lot easier was an opening up of the banking sector to competition.
The Commonwealth Bank was privatised, foreign lenders entered the market, and a bunch of non-banks started lending.
The result was fiercer competition, a keenness among banks to lend, and cheaper credit.
The thing to remember is, these shifts can only occur once.
Inflation can't be contained again, and we can't deregulate our financial system a second time.
Other factors may push up house prices, like strong demand and lacklustre supply of new dwellings.
But without house prices being turbocharged by higher leverage as they were in the last boom, the housing market in the future is likely to feature more modest prices than in the past.
Frequently Asked Questions about this Article…
The article argues a repeat of the big booms is unlikely. While prices have risen modestly (about 2.7% nationally in the past year), the one-off conditions that fuelled past booms—much higher household borrowing capacity and a major fall in interest rates—are unlikely to be repeated.
High household debt limits the chance of another runaway boom because past booms were driven by people bidding up prices with much higher leverage. The article notes borrowing rose from about 50% of disposable income in the early 1990s to around 150%, and without a similar surge in borrowing, price gains are likely to be more modest.
According to the article, prices rose quickly because people were able to borrow more—home loans became larger—as a result of much lower interest rates and a more competitive banking sector. Those two drivers turbocharged demand and pushed prices up about 6% a year in that period.
The article says a repeat of the dramatic fall in interest rates that enabled past booms is unlikely. While rates now fluctuate (it cites roughly 7% in boom times and 3% in weak periods), the very large, one-off drop that made debt much cheaper before won’t likely happen again.
The opening up of the banking sector—privatisation of the Commonwealth Bank, entry of foreign lenders and growth of non-bank lenders—created stronger competition and cheaper credit. That increased willingness to lend helped households take on larger home loans and supported rapid price growth.
Yes. The article acknowledges factors like strong demand and weak supply of new dwellings can lift prices. However, without the extra boost from much higher leverage, price increases are expected to be more moderate than during past booms.
The article highlights a big shift: borrowing rose from about 50% of disposable income in the early 1990s to roughly 150% where it has settled—an increase that reflected much larger home loans taken on by households.
Everyday investors should be cautious about expecting another fast, leveraged boom. The article suggests future housing markets are more likely to produce modest price gains driven by supply and demand dynamics rather than the heavily debt-fuelled rallies seen in the past.
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