Australian housing market more at risk than pre-GFC America: The Economist

Australian house prices are more vulnerable to a major correction than the US housing market was before its collapse following the GFC, according to The Economist magazine. 

The magazine says home prices in Australia (alongside Belgium, Canada, France, New Zealand, Britain, the Netherlands, Spain and Sweden) are overvalued by about 25% and could plummet if there is another global credit crunch as a result of a sovereign debt meltdown in Europe.

It says the housing markets of Australia, Belgium, Canada and France “look more overvalued than [the housing market] was in America at the peak of its bubble”. 

This assessment is based on two ratios: the first is the price-to-income ratio, a gauge of affordability; and the second is the price-to-rent ratio, which reflects the rents earned by property investors (or those saved by owner-occupiers). 

In the case of Australia, the magazine says the price-to-rent ratio is running at 53% above the long-run average while the price-to-income ratio is currently 38% above the long-run average. 

In comparison, the ratios for the depressed US housing market are down 8% and down 22% respectively. 

Economist house price indicators:

Source: The Economist

(*relative to long run average, #disposable income per person)

“If both of these measures are well above their long-term average, which we have calculated since 1975 for most countries, this could signal that property is overvalued,” The Economist says. 

The magazine also notes that Australia, Britain, Canada, the Netherlands, New Zealand, Spain and Sweden “all have even higher household-debt burdens in relation to income than America did at the peak of its bubble”. 

“Overvalued prices and large debts leave households vulnerable to a rise in unemployment or higher mortgage rates. A credit crunch or recession could cause house prices to tumble in many more countries,” it says.

The views expressed about Australia in the respected publication are at odds with predictions by economists such as Rismark’s Christopher Joye, who expects a recovery in housing prices in the first quarter of 2012.

ANZ Bank property analyst David Cannington also disagrees, telling The Age the ratios used by The Economist don’t give the full picture.

''We think there's more to the stability of the housing sector than is suggested in The Economist's analysis,'' he says.

But not all Australian economists think the housing market is safe.

“The potential in Europe is that the debt crisis worsens and the housing market is tightened. And that's not good news,” says APM economist Andrew Wilson.

The Economist acknowledges that some economists reject its measure of overvaluation, “arguing that lower interest rates justify higher prices because buyers can take out bigger mortgages”. 

“There is some truth in this, but interest rates will not always be so low. The recent jump in bond yields in some euro-area countries has raised mortgage rates for new borrowers,” it says. 

The forecast for Australia is made as part of the Economist’s latest update to its global house-price indicators, which shows that prices are now falling in eight of the 16 countries in the table, compared with five in late 2010. 

House prices are falling in Australia (-2.2%), Spain (-5.5%), Netherlands (-2.8%), Denmark (-1.3%), Ireland (-15.1%), US (-5.9%) and Japan (-3.3%). 

Despite US houses prices looking “cheap” by comparison to other first world markets and having reached “a floor, The Economist says there is no guarantee of an imminent bounce. 

“In Britain and Sweden in the mid-1990s, prices undershot fair value by around 35%. Prices in Britain did not really start to rise for almost four years after they bottomed,” it says. 

Furthermore, an expected four million foreclosed homes could come onto America’s market may also keep house prices depressed. 

It was recently estimated that it could take more than 50 years to sell all the foreclosed and delinquent homes in the states of New York and New Jersey at the current rate of foreclosure sales.