Property Institute warns of ‘apartment bubble’

Property Institute warns of ‘apartment bubble’

Property Institute of New Zealand Chief Executive, Ashley Church, is warning of an ‘apartment bubble’ as the likely consequence of two seemingly unrelated responses to house price inflation in the Auckland property market.

Earlier this year the Reserve Bank issued a discussion paper in which it outlined a range of ‘prudential tools’ it was considering using to cool house prices. Among these was a suggestion that the Bank was investigating ‘loan-to-income restrictions’ similar to those recently introduced in England and Ireland. These restrictions would cap the amount that could be borrowed to a percentage of the income of the borrower.

Then, late last week, came news that several major banks are considering dropping the minimum deposit required to purchase an apartment to 15% (down from 20%). They are able to do this because of the exemption to the current loan-to-value clampdown which allows lending beyond 80% of value if the property being purchased is new.

However, Mr Church says that the combination of these initiatives would trigger ‘the law of unintended consequences’ and would almost certainly lead to an ‘apartment bubble’ – particularly if the Reserve Bank followed the example of England and restricted mortgage loans to 4.5% of income.

“The median Auckland household income is $76,500 – so if we followed the Brits we’d be restricting the average Auckland household to a mortgage of not more than $344,250.That will make apartments look very attractive – particularly if the banks also require a lower deposit to buy these”.

Mr Church outlined a likely sequence of events leading to an apartment bubble:

1. The Reserve Bank restricts mortgage loans to a percentage of household income – effectively making the purchase of freestanding residential homes almost impossible to all but the very wealthy.

2. With median household incomes of just $76,500 - home buyers flock to the apartment market to find properties which comply with the new rules.

3. The relaxed deposit rules, by the major banks, allow buyers to borrow a little more if the apartment is new – (on average, a little over $400,000 if we adopt the Brit formula) – and this combination fuels a new wave of apartment building and streamlined marketing programs designed to entice buyers.

4. Property Investors – many of whom have also been caught by the new rules – also start buying apartments in large numbers.

5. The combined effect of this new wave of buyers quickly pushes up the price of apartments - fuelling an ‘apartment bubble’.

6. Perversely – the quality of new apartments suffers as developers focus on the ‘low-end’ of the market so as to appeal to as wide a range of potential buyers, within the Reserve Bank rules, as possible.

7. Meanwhile, the cost of renting free-standing homes in Auckland also increases as demand outstrips supply due to the absence of traditional property investors buying these types of properties.

8. Within 7 to 10 years Auckland becomes a highly ‘intensified’ city with large numbers of low quality apartments dotting the landscape and free-standing residential homes becoming the preserve of the well-off and wealthy renters.

Mr Church says that he is aware that a focus on ‘intensification’ through building more apartments is consistent with the Auckland Unitary Plan and that some might see this outcome as a good thing – but he notes that this provision is also strongly rejected by a large number of Aucklanders and shouldn’t be forced on the city by the Reserve Bank.

“The drive for Intensification is based on a political ideology and is rejected by a large number of Aucklanders. It should only happen if Aucklanders want it”.

Mr Church also concedes that the outcomes may be different if the Reserve Bank imposes a significantly higher loan-to-income cap but says a greater focus on apartment buying is still an inevitable outcome of such a cap.

He says that the exact sequence of events might differ from the one he has outlined – but the eventual outcome is very predictable to those who know the market.

“There’s no rocket science in this – if you close one door and make going through another more attractive – the result is going to be pretty obvious”.

Ends

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