Guest blogger Graham Currie has over 30 years experience in the financial planning industry.
Industry commentators often predict that house prices double every 7 to 10 years, and that’s in normal times, let alone some of the huge rises we have seen lately.
This means a compound growth of 7% to 10% a year, however average earnings are only likely to grow by 4% to 5% on the back of an inflation rate that the Reserve Bank is determined to keep in the 2% to 3% range.
In Ten Years
A 10% compound rise over 10 years will see a $500,000 home worth $1,178,974, an increase of 2.36 times, yet 5% earnings growth will mean an increase of only 1.55 times. In real terms houses will be 50% dearer than they are now. Those borrowing and paying 30% of their income on mortgage payments will see that rise to 46%. That’s real mortgage stress.
Even an 8% rise will see homes 28% dearer in real terms and mortgage payments at 39% of income.
In Twenty Years
Projected over 20 years the results look unrealistic. The $500,000 home is worth $3,057,955, or 6.11 times today’s value but incomes will only have risen by 2.53 times. In real terms houses will be worth 2.4 times more. Mortgage payments will have hit 74% of earnings.
After 27 years the ridiculous happens and mortgage payments exceed earnings.
Even at an 8% increase over 20 years will see homes cost 1.7 times more and mortgage payments will reach 52% of earnings.
Historically
From a low base of around 3 times earnings to buy a home some decades ago we have increased this to around 7 times, funded by an increase in two income families and a massive increase in debt, not just on housing but on credit cards and personal loans. 1.7 million investors favoured by negative gearing tax concessions have also driven up prices.
Is there room left to keep increasing these debt levels or are we now approaching debt stress where we can’t afford to service any higher borrowings? Will lending institutions let us keep borrowing at higher levels?
Higher interest rates in the future will only compound these affordability problems.
What Does The Future Hold?
First home buyers are already struggling to enter the market.
Is a bubble being created that could burst one day soon?
Many commentators who are worried about our high house prices seem to think that our growing population and existing shortage of housing and new home building will protect us from any drastic correction in house prices.
Something has to eventually give!
If house prices continue to rise at a rate greater than earnings growth then there will have to be a basic change to house and land sizes, location, cheaper construction methods or more people housed in apartment type housing.
Or we will continue with similar housing, but with price rises limited to 4% to 5% each year in line with earnings? Perhaps we will see a combination of both.
Longer term mortgages don’t reduce payments by a lot and parents and grandparents who are in valuable homes will probably need that equity to fund their own longer life spans and medical costs rather than help their children into houses.
Graham Currie
Principal - Eliza Property Analysis
graham@elizapropertyanalysis.com.au
