Australia’s housing supply ramp-up: HSBC's Paul Bloxham
GUEST OBSERVER
As mining investment falls, Australia’s growth has needed to rebalance to other sectors of the economy. A key driver of this rebalancing act has been a pick-up in housing construction, motivated by low interest rates and rising housing prices. Dwelling approvals have been at record levels in recent months.
This has been a positive story, as Australia did not build many houses when the mining boom was at its height and had an accumulated housing undersupply. But for how long will it be a positive story? When will we have built enough houses, or potentially too many? These questions have become more pertinent recently, given both the ramp-up in housing construction and a slowdown in population growth.
Answering these questions is tricky. There are good measures of the number of new houses being built (supply), but estimates of housing oversupply or undersupply also rely on growth in the number of households (demand). This is affected by population growth and the number of people in each dwelling, which is poorly measured and a swing factor when there are housing shortages or affordability changes. For example, when housing prices rise, more people live together. In short, the numbers are quite ‘rubbery’.
However, despite the uncertainties, it is clear that the recent ramp-up in housing supply means the cumulative housing deficit is diminishing. Our estimates see the national housing market in balance by 2017. Across the states, Victoria has the highest risk of oversupply, while NSW and Queensland will have undersupplies for some time yet.
The bottom line is: Australia does not currently have an oversupply of housing, but a further jump in approvals could increase the risk of building too many houses. This could affect the house price outlook. It may also make the RBA more cautious about cutting rates further from here, as the costs of cutting further could start to outweigh the benefits.
Housing supply is ramping up, while population growth slows
Housing supply has been ramping up in the past couple of years in Australia (Chart 1). Indeed, a pick-up in housing investment directly contributed 0.4ppts to GDP growth over the year to June 2015, which has been helping to rebalance growth as mining investment falls.
Leading indicators of construction activity have recently risen to record levels with over 200,000 dwellings approved in the past year. The number of new dwellings approved in H1 2015 was 40% higher than in H1 2013. As building approvals typically lead dwelling completions by around 1-3 quarters, the current high level of approvals implies that some further ramp-up in construction is likely in coming quarters. We expect housing construction to continue to be a support for GDP growth in 2016.
However, the ramp-up in housing investment has come at a time when population growth is slowing. The latest estimates show that population growth slowed to 1.4% in 2014, down from a recent peak of 1.7% in 2012 (Chart 2). The slowdown reflects slower growth in inward migration, with the largest driver of this trend being an increase in the net flow of Kiwis back to New Zealand.
At first glance, these contrasting trends may seem worrisome. If housing supply is ramping up at the same time that demand is weakening, surely there could be excess supply in the market at some point? However, the story is more complex than this. Much of the recent ramp-up has been needed to work off an accumulated implicit undersupply of dwellings that occurred over the past decade.
Australia has an accumulated housing undersupply
Measuring the extent of undersupply in the housing market is, however, also quite tricky. This is partly because there is no literal housing shortage. Instead, the number of people per household adjusts to keep demand in line with supply. For example, when there is insufficient supply of housing at a reasonable price, young people may choose to live in their family home for longer.
This pattern has been apparent in recent years with population growth exceeding the rate of growth in new households between the 2006 and 2011 censuses (Chart 3). Over that period, the average number of people per household levelled out, rather than falling in line with the historical trend. Importantly, small variations in the number of people per household can make a big difference to estimates of growth in the number of households (which drives housing demand). Measuring housing demand is further complicated by the fact that data on the number of people per household are only available on a five-year basis.
‘Underlying’ demand, therefore, has to be estimated, usually based on historical trends. To do this, we have used different scenarios for the number of people per household (Chart 4). In all cases, however, growth in the number of households has exceeded growth in the number of dwellings on average over the past 15 years (particularly between 2007 and 2010). So, on average, we have an accumulated implicit housing undersupply because in previous years we had built too few houses to meet new housing demand at a constant household size.
When will the housing undersupply be worked off?
Although there is significant uncertainty in these estimates, it is likely that we are now working off some of the undersupply that had previously built up. This is because dwelling construction is quite clearly growing faster than population growth. Our central estimates show that the housing undersupply probably peaked in 2012 at around 200,000 dwellings and has been falling since then (Chart 5).
Just how quickly we will work off the housing undersupply will depend on a number of factors, including how many dwellings are built from here, how much population growth slows and, of course, how many people there are per household.
In Chart 5, we set out three scenarios based on varying rates of growth in the number of households and all assuming that dwelling construction continues at its current level, with completions running at around 220,000 dwellings (net of 15% for demolitions and un-occupied dwellings). In the central case, with household growth of 1.4% a year this sees the undersupply of housing worked off by 2017.
Supply imbalances differ across the states
Although there has been a lift in residential construction in most states recently, there have been stark differences in housing supply and demand dynamics over the past decade (Charts 6 and 7).
Victoria and New South Wales (NSW) have experienced similar levels of population growth since around 2007; however, in Victoria, construction has kept pace with the increase in the population, while in NSW it has not (Charts 8 and 9). Since the beginning of 2007, the population of NSW has grown by an estimated 813,000 people. In Victoria, the increase was almost identical at 815,000 people. However, over that time, NSW has added 214,000 dwellings, while Victoria added 307,000.
These disparities across the states mean the national story of a housing shortfall does not apply evenly. Our estimates show significant shortfalls seem likely in NSW and Queensland. In contrast, Victoria, South Australia and Western Australia appear to be much closer to balance. These trends in housing demand and supply are no doubt contributing to the strong growth in housing prices in Sydney and weaker housing price growth elsewhere (Chart 10).
Looking forward, housing construction has been lifting in all states and recent building approvals suggest further growth to come. In Queensland and Western Australia, there has also been a sharp slowdown in population growth. These factors combined point to a rapid improvement in the level of the housing stock relative to demand. In NSW, a significant upswing in housing construction is underway, and population growth appears to be slowing modestly. However, the accumulated housing deficit appears to have been largest in NSW, so adjustment may take some time yet. In Victoria, as discussed above, housing construction appears to have kept pace with population over recent years. Slower population growth and even stronger construction poses the risk that certain parts of the market may become oversupplied.
Paul Bloxham is chief economist (ANZ) for HSBC . Daniel Smith is economist. They can be contacted here.
