RBA loses credibility as housing boom continues
22 Aug 2016
Australia’s booming housing market has once again head-faked the central bank, which is losing credibility every time it cuts on claims the world’s dearest residential property prices are nothing to worry about.
In rationalising its decision to reduce the cash rate to 1.5 per cent in August, the Reserve Bank of Australia alleged that “the likelihood of lower interest rates exacerbating risks in the housing market has diminished”.
Yet auction clearance rates in our two largest cities, Sydney and Melbourne, which account for 47 per cent of the metro population, have subsequently risen back to boom-time levels.
CoreLogic reports that 86.4 per cent of Sydney auctions on the weekend resulted in a sale, which is 10 percentage points higher than the equivalent clearance rate 12 months ago and just shy of the 89.7 per cent record set in May last year.
In Melbourne, 76.1 per cent of auctions saw a sale, besting the 74.3 per cent clearance rate in the same week last year.
Median clearance rates in Sydney and Melbourne over the four weeks since July 31 have been 78 per cent and 76 per cent respectively, materially above the median levels observed in these cities since the current housing boom commenced in 2013 on the back of the RBA’s stimulus.
While the RBA argues that much lower sales volumes in 2016 signal weakness, this is likely more a reflection of a four-year boom exhausting supply.
And it does not stack up with unusually strong clearance rates or persistently exuberant capital gains across Sydney and Melbourne.
Debt to income at record highs
This column has repeatedly highlighted how on numerous occasions since the RBA began cutting rates in earnest in 2012, it has assured the community that excessively cheap money would not drive dangerous house price growth that undermines affordability or financial stability. The ensuing data have proven these predictions to be bogus.
Since January 2013, home values across Australia’s eight capital cities have risen at an annual pace of 8.8 per cent, multiples annual growth in wages (2 per cent) and core inflation (2 per cent). This has been underpinned by average annual capital gains of 13.4 per cent and 9.8 per cent in Sydney and Melbourne over the past three and a half years.
When the RBA reduced its cash rate by a chunky two standard cuts in May 2012, Australia’s dwelling price-to-income multiple was at 4.85 times, well-below previous peaks of 5.25 times in June 2010, 5.1 times in September 2007, and 5.3 times in March 2004.
According to UBS, Australia’s dwelling price-to-income multiple hit an historic high of 5.6 times in September 2015 and inflated to an unprecedented 5.7 times in June 2016, as this column forecast it would.
The same story is true of household indebtedness, which prompted rating agency Moody’s to place the credit ratings of the four major banks on negative outlook last week.
The nation’s household debt-to-income ratio has exploded from an already internationally lofty 167.5 per cent in mid 2012 to a new record of more than 187 per cent in 2016.
In its statement explaining the August cut, the RBA claimed the “most recent information indicated that dwelling prices have been rising only moderately over the course of this year” with “considerable supply of apartments scheduled to come on stream”.
Yet this analysis is flawed. A simple change to the sampling method the RBA’s preferred index provider, CoreLogic, uses with its daily “hedonic” indices caused a modest 0.8 per cent upward revision to its year-on-year growth estimate across Australia’s five largest capital cities. (CoreLogic updated the dwelling price cut-offs used to trim out the highest and lowest observations.)
“Yet since the changes were made, we are continuing to see relatively strong month-to-month results that are unaffected by sampling update,” CoreLogic research director Tim Lawless says.
“The Sydney dwelling index rose 1.2 per cent in June followed by another 1.3 per cent in July,” Lawless says. “Likewise Melbourne’s index was up 0.8 per cent in June and 1.1 per cent in July.”
Over the three months to August 21, a period not affected by the index upgrade, Sydney and Melbourne prices have been inflating at an 8.1 per cent and 6.4 per cent annualised rate respectively. While the national market has slowed to a 4.4 per cent annual pace, this is still doubling per household incomes.
This contradicts the RBA’s claims in its August Statement of Monetary Policy that “the most recent data suggest housing prices declined in most capital cities in July”.
The same can be said of the RBA’s contention that “other timely indicators of conditions in the established housing market continue to point to weaker conditions than last year” with “auction clearance rates … lower than a year ago”.
To support the case for a cut, the RBA hung its hat on the historically non-preferred “stratified median price” index, which reported only 2.6 per cent growth in the year to 30 June compared to RP Data’s 7.5 per cent (adjusted for the index update).
The problem with the median price index is that it is likely being dragged down by the relatively high number of apartment sales caused by the building boom, which have lower values than detached houses.
The reason the RBA has got the Aussie housing market so wrong so often is likely related to two facts. First, it has never dealt with an economy that is carrying this much debt, and hence interest elasticity, before.
And, second, it has never dropped the cash rate this low, and would never have conceived of doing so when economic growth was running above trend and house prices were rapidly scaling record heights.
Policy errors of this kind threaten the very fabric of the financial system and the integrity of asset-allocation across the $2 trillion superannuation sector, while also eroding the credibility of what used to be one of the world’s most respected central banks.