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Housing markets - Australia vs South Africa   Article Date :6 Sep 2005 Special report. For more than a decade up until 2005, Australia has recorded a remarkable economic performance. Following some economic reforms during the 1980s, the country has not experienced an economic recession for the past fifteen years. During this period, inflation and unemployment were significantly reduced and government finances were kept under strict control. These developments, together with a strong currency, resulted in interest rates being cut to levels not seen in many years. Compared with Australia, the South African economy has also posted a relatively strong performance over the decade since the country's transformation to a full democracy in 1994. Average annual growth in real gross domestic product (GDP) of 3% was recorded in South Africa between 1994 and 2004. Over the past few years, inflation and interest rates have dropped to their lowest levels in many years, largely supported by a strong currency in most recent times. These macroeconomic developments have enabled both the Australian and the South African residential property markets to experience substantial growth during recent years in terms of volumes, investor involvement and price levels. In this article, developments in the Australian and South African residential property markets over the past number of years are analysed and compared. The aim is to determine whether the local property market is following the same trend as in Australia. There, the market recently became overheated and, after a period of monetary policy tightening, house prices started to decline across a broad front. The Australian residential property market The household sector in Australia reacted very positively to favourable macroeconomic conditions, which prevailed for more than the past ten years. These conditions included low inflation, low interest rates and strong growth in employment. As a result, household consumption expenditure and retail sales posted relatively strong growth during this period. The residential property market, as part of the household sector, was boosted by strong demand for housing as a result of the abovementioned developments. House prices recorded strong growth, resulting in a sharp increase in the value of household assets, with the share of housing rising substantially. Double-digit growth in household credit was recorded annually over the past ten years, causing the level of household debt to increase sharply to historical highs. During this period, the ratio of household saving to disposable income dropped to its lowest level since the early 1980s. House prices in Australia started their rapid increase to recent record highs in the late 1990s. This happened against the background of the Reserve Bank of Australia's key policy interest rate (the so-called cash rate) dropping to relatively low levels of between 4% and 6,25% during the past eight to nine years. As a result, mortgage interest rates ranged between 6% and 8% over the same period. Impact of higher interest rates However, by 2003 there were clear signs that the housing market had become overheated. House prices were accelerating at a rate of 20% per annum and credit extension for housing purposes was expanding at unsustainable rates by the end of that year. At the time, investors in the residential property market accounted for a historically large share of total home mortgage having fallen to about 3% to 3,5% from as high as 9% in the late 1980s. These trends, had they continued unabated, carried the risk of building up significant imbalances in household balance sheets. Taking into account these developments, as well as broader macroeconomic trends over the past few years, the Reserve Bank of Australia has tightened monetary policy from 2002 up until early 2005, gradually increasing interest rates. This has resulted in lower house prices, lower investor involvement in the market, and lower growth in mortgage credit extension since late 2003. Housing becoming less affordable also contributed to these developments. Although bank approvals for housing finance are currently lower than in late 2003, there was an upward trend late last year and early in 2005. This was largely the result of still solid market fundamentals, such as continuing employment growth and real wage increases. As a result, approvals for owner-occupied housing increased to a new high in the early stages of 2005. However, the higher interest rates had a more negative impact on the investor market than the owner-occupier market, mainly as a result of already low rental yields at the time. Approvals for investor housing also improved to some extent on the back of the same fundamentals, but the recovery was much more subdued. The result was that, during recent months, investor housing approvals were still about 23% below their late-2003 peak. As for the impact on house prices of the Australian central bank's tighter monetary policy stance, various price measures compiled by Australian institutions (the Australian Bureau of Statistics (ABS), the Australian Property Monitors (APM), Commonwealth Bank of Australia (CBA), the Real Estate Institute of Australia (REIA) and Residex indicate that house price growth has virtually stalled over the past year and a half. However, house price growth differs significantly between the major Australian urban areas. When price growth in Perth in Western Australia was still on an upward trend towards the end of last year, prices were already down in most other cities. This was largely the result of a still relatively strong economic performance in this region on the back of high commodity prices. (The country's major mining activities are mostly situated in Western Australia.) Overheated property markets in Sydney, Canberra, Melbourne and Brisbane have reacted much more sharply on the higher interest rates, with house prices declining from relatively high levels in these cities since late 2003 early 2004. Other supporting factors The strong upward trend in house prices across all regions in Australia during recent years was based on more than just the relatively low and narrow range in which interest rates fluctuated during this period. Various other factors also played an important role: - In 1999, the effective rate of capital gains tax was cut to 24,25%. This marked the beginning of a trend for a large number of Australians to invest in a second property in an effort to earn an additional income and take advantage of the expected strong capital appreciation from investing in rental property. - The favourable tax treatment of investments in residential property. "Negative gearing" is a common practice. It is made possible by being able to offset the entire cost of a mortgage on a rental property against the owner's income - not from only that asset, but from any source of income. - Generous housing depreciation allowances as well as grants for first-time home-owners. - The relative ease with which individuals could obtain finance to enter the investment property market because of the strong competition between banks. - Banks developed various innovative home loan products in an effort to get their slice of the rapidly growing mortgage market and remain competitive while favourable conditions prevailed and the outlook for future growth was positive. The affordability of housing As a result of these supporting factors leading to sharply higher house prices since the late nineties, the affordability of housing eventually came under severe pressure. This was caused by house price increases more than offsetting the impact of low interest rates on affordability. A commonly used measure of affordability in Australia is the ratio of average household income to the income required to meet debt repayments on a typical house. This measure indicates that affordability has declined significantly ove CLICK HERE TO RETURN TO THE MAIN NEWS PAGE