Bryce Wilkinson: NZ in grips of a double feature housing horror story

Imagine an optimistic and hard-working young couple hoping to raise a family in their own house. Thousands of them are flicking through property listings each weekend. Many readers will know at least one of them.

Even their combined income and savings are not enough to cope with today’s astronomical house prices. On top of that, wages are not keeping pace with those prices.
These Kiwi couples all over the country are living a double-feature horror story.

First, too few houses were built over multiple decades. Governments are to blame for this. They are presiding over a system where anti-development incentives are too strong. They are as loath to admit it as they are to fix the issue. The proposed Resource Management Act reforms will likely make matters worse.

But inadequate supply will not help these young couples understand why the median price for houses sold rose 5 per cent in October during near-zero net migration and the Covid-19 recession.

Enter the second villain in this horror story – the Government’s monetary policy instructions.

The young couple may think major reductions in new mortgage interest rates are helpful. Not so. Instead, they are increasing bidding competition for the benefit of sellers. Historically-low central bank interest rates and unprecedented central bank credit creation are fuelling house price inflation.

What frustrates this young couple the most is the lack of effective government action and “feel good” measures like KiwiBuild or the 2018 ban on foreign buyers. Neither of these stopped the median price of houses rising almost 20 per cent in the year to October.

Ideas like capital gains taxes or rationing bank lending for housing are also poor fixes.

They would do nothing to free up land for housing or weaken anti-development incentives. The prime minister’s plan of giving first home buyers more money is another non-solution.

So why is the Government so reluctant to act?

In a nutshell, it is conflicted. Homeowners do not want to see house prices fall, particularly if they are recent buyers. The Government also wants to keep rents down, but taxing landlords will increase rents sooner or later.

On the interest rate side, the Government is a heavy borrower. This gives it an anti-saver bias. Treasury plans to borrow another $1.9 billion this month. That is about $1000 per household.

Would you be happy to lend the Government $1000 in December? Yields on five-year government bonds are of the order of 0.34 per cent per year. The consumer price inflation target is about 2 per cent. That is a losing deal for prudent savers.

So, while savers are on a hiding to nothing, borrowers can anticipate massive returns – if things go well.

One expert expects house prices will double in the next seven years. If house prices rise at 10 per cent each year, a young couple with a 30 per cent deposit could make an annual tax-free capital gain of 24 per cent on their equity after paying 4 per cent interest on the mortgage. Wow. That beats paid work!

No wonder young couples persist in their stressful quests to buy a house.

Unfortunately, incentivising mortgage borrowing does not stimulate economic activity when the construction industry is already fully stretched.

Judging by the Reserve Bank’s latest published figures, bank net lending to government increased by $29b between September 2019 and September 2020. Lending on housing rose by $13b. Lending fell in every other category – loans to consumers, business and agriculture. No wonder house prices are rising.

Government trying to achieve multiple conflicting objectives is not new. As Mark Twain said, history doesn’t repeat itself, but it often rhymes.

Back in 1982, prime minister Robert Muldoon imposed a comprehensive wage, price, interest rate and rent freeze to eliminate inflation while keeping unemployment low.

It was not a happy time. Just like today, the Government was a heavy borrower and wanted low-interest rates. So, Sir Robert decreed he would not sell government stock at yields higher than 11 per cent per annum.

Unfortunately, inflation expectations were so high that investor demand at 11 per cent was lacking. To force more lending at 11 per cent, the Government could force financial institutions to buy government stock regardless of the interest rate.

Those who ultimately bore the costs (the public) had no idea they were lumped with the costs. In politics, that is a fine thing.

(The counterpart today is the RBNZ’s quantitative easing programme. It forces banks to lend to the Government through increased holdings of deposits at the Reserve Bank – earning just 0.25 per cent per year.)

Surprise, surprise, artificially low-interest rates from 1982 encouraged excessive lending. Sir Robert’s response was to play whack-a-mole with financial institutions that increased lending faster than he expected. That threatened fundamental constitutional issues.

The latest step from the Reserve Bank is its intention to reduce loan-to-value ratios for housing. This represents a similar band-aid response as applied all those years ago in 1982.

Young people may be desperate to get on the housing ladder, but they are not stupid. They know this entire situation is unsustainable and will only worsen unless the real causes are addressed.

Yet, there is a solution that can help both the Government and young Kiwi couples.
It involves fixing the root problem of ridiculously high land prices caused by NIMBYism, infrastructure delays and restrictions on new development.

Second, the Government should rethink its monetary policy instructions. The case for lifting the rate of consumer price inflation to 2 per cent per year in a post-Covid world seems to be close to non-existent. The costs are too high and the benefits are mainly wishful thinking.

The Minister of Finance’s open letter to the RBNZ governor last week reflects the monetary policy imbalances caused by the Government’s choices. Monetary policy must be refocused on the one thing it can most clearly achieve – medium-term price stability.

The thousands of young people locked out of the housing market won’t be helped by a greater politicisation of monetary policy. They want real action, and they are right to demand it.

Bryce Wilkinson is a senior fellow at Wellington-based think-tank The New Zealand Initiative.

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