The mythical housing shortage claims continue in earnest as self-interest market participants such as the Housing Industry Association and building company Brickworks warn of a dire deficit of suitable dwellings. The Financial Review again joined in this morning, claiming that “Australia’s housing shortage appears to be getting worse” with “Citigroup estimating excess demand is running at about 25,000 dwellings a year”.

A few days earlier, the Financial Review produced a somewhat contrasting statistic — the recent capital city rental prices. According to RP Data, rental prices in Sydney in the past year have increased by 0.0% (yes, they didn’t increase at all). Melbourne prices edged up by 1.4% over the past year. Amazingly, despite an apparent housing shortage, rental prices in Brisbane, Adelaide, Sydney, Perth and Hobart did not rise during the most recent quarter.

The question remains — if there is a housing shortage, why are rents not increasing?

There can be two possibilities: either the rental market is fundamentally broken and there is no link between demand, supply and price, or there really isn’t a housing shortage.

This columnist will argue that there is nothing wrong with the rental market. In fact, in relative terms, the rental market is reasonably efficient — that is because property managers generally manage a large number of dwellings and can adjust prices quickly when the demand increases for the limited supply of rental properties. (For example, if five people are hoping to rent a property, the property manager will within a week or two, increase their asking prices for other listed properties in the area due to demand exceeding limited supply).

There are two reasons rental prices have not increased in the past year — first, the ability for renters to pay higher rents has deteriorated. Second, there are no longer multiple people applying for rental properties (which occurred in 2007-08) so landlords haven’t been able to freely increase asking prices.

It appears though that not everyone is fooled by the shortage myth. Former APM chief and founder of SQM Research Louis Christopher told SmartCompany that:

The issue isn’t necessarily a national undersupply. [With some] cities, such as Brisbane, actually have an oversupply and developers need to instead target areas “smarter” than just thinking the issue is a national one.

“This is why the issue of supply needs to be tactical as well. It’s no good trying to push a macro-style incentive when what we need to do is build smarter, not just everywhere.”

So if there isn’t really a housing shortage, what does this mean for property prices?

The prognosis is unlikely to be positive. Based on current rental levels, the median property would provide a net yield of about 2%. For any asset to provide that kind of return, the owner would be expecting a very substantial increase in income in future years. This is where the housing shortage justification appears — housing bulls would presumably argue that because there is a shortage of dwellings, tenants will “bid up” the price of rentals, increasing the yields for property owners. But if this doesn’t happen (and it is possible, with immigration slumping that rental yields may even fall), the property owners are holding a very low-yielding asset that has minimal prospects for income (and therefore capital) growth.

Since 1998, median house prices have risen by about 7.5% annually — increasing from $191,400 to $470,000. Over roughly the same period, the ABS noted that “national disposable income per capita grew by 2.6% a year, from $35,000 to $45,300”.

It appears by all reckoning that prices have drastically over-shot their intrinsic values. Instead of rising at a similar level to income growth, property prices have increased by almost triple the rate of disposable income. This has largely occurred due to a prolonged period of low interest rates, willingness of Australian home buyers to use very large amounts of leverage and foolhardy fiscal policies (such as the first home owner’s grant, capital gains concessions and negative gearing).

Property prices won’t fall? We still wouldn’t be betting the house on it.

Peter Fray

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