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Latest news & views from market economics / June 2016

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Auckland Housing Affordability #2


IS THERE AN (URBAN) LIMIT TO APPORTIONING BLAME?

The Independent Hearing Panel’s decisions on the Proposed Auckland Unitary Plan are due to be released on 22 July, after due deliberation on Auckland Council’s long term strategy for a relatively compact urban form, based on accommodating 60-70% of growth within the 2010 metropolitan edge. The Auckland Council must then decide to accept all, some or none of the IHP’s recommendations. 

However, in the lead up to those decisions, things are hotting up on the political front, in the glow of the already heated Auckland housing market. The Government has threatened to replace the Auckland Council with commissioners if the Unitary Plan does not provide sufficient additional land for growth1  and signaled that the National Policy Statement on Urban Development would contain provisions to use a housing price indicator as an automatic trigger to release additional land. 

There have been statements from the Rt Hon Mr Key, the Hon Mr English and The Hon Dr Smith that constrained land supply is the dominant influence on high housing prices, and the Hon Dr Smith stated (June 2) that the NPS “…will focus on Auckland, where the government has identified the price of land as the primary problem.” It seems clear that the Government - and also Labour’s housing spokesman Mr Twyford - blames urban limits as being the primary cause of Auckland’s housing supply and housing affordability issues, and they want urban limits gone. Given the urgency to rein in growth in housing prices, there also seems to be some belief that removing urban limits will result in a significant price response in the short or medium term.

Judge Kirkpatrick, the chair of the IHP, recently appeared on national television to confirm that the IHP’s decisions will be based on the evidence presented to the Panel, as distinct from political positions. Auckland Councillor Chris Darby recently called for reliance on the due process of the IHP.

Important questions arising from this are to what extent Auckland’s urban limits are really to blame for the housing affordability crisis, and which other factors may have contributed to the current situation? Urban economies and their housing markets are complex, and the experience of those familiar with their workings tells us that important issues like housing affordability seldom arise from one dominant cause. Even more rarely are they able to be solved by simple, one-dimensional solutions.

There is plenty of information around to offer a reasonable evidence base as to the various contributing factors to the current affordability problems, and how these have acted over that time to drive prices up, drive demand up and to limit supply.

First, what actual trends in dwelling prices and housing affordability are evident over the past 25 years or so, in Auckland and across the rest of New Zealand? Auckland housing prices have long been higher than the national average. In June 1990, the median in Auckland was around $145,000 or 29% above the national median. Through the 1990s, Auckland prices grew slightly faster than the national trend, and by 2000 the median was around $240,000, or 36% above the national median (according to REINZ figures). 

The period from 2000 to 2008 is important. It was the lead up to the Global Financial Crisis (GFC) of 2007-08. During this period there were substantial increases in dwelling prices throughout New Zealand, with prices more than doubling in dollar terms between June 2000 and the peak in December 2007. Interestingly, the increase in Auckland prices (110%) was the lowest of all regions in percentage terms leading up to the GFC – the national average was 122%. As a consequence, by December 2007 the Auckland median price – though by now $460,000 - was “only” 30% (or $105,000) above the New Zealand median.

This period is important for several reasons. First, the rates of price increase were high nationally, at 11%pa between June 2000 and December 2007 (according to CoreLogic statistics). Prices rose far ahead of inflation, so the cost of housing increased substantially in real terms, throughout the country. Second, the price increases bore little relation to underlying population growth. Auckland had the strongest population growth (17.6%) but the lowest price growth (110%). Among the other regions, Southland had no population growth but dwelling prices increased by 208%, East Cape had population decline but a 176% increase in prices, and Canterbury had population growth of 11.8% with dwelling price growth of 167%. Clearly, substantial price increases occurred without significant population growth and associated need for urban expansion. 

The dwelling price growth was driven by a number of factors, but major contributors – as identified by the Reserve Bank - were the relatively low cost of finance and the ease with which credit was available. Consumer confidence was high, it was easy for households to move upward in the housing market by simply increasing their indebtedness, sales volumes were high as the market gathered momentum (see Figure 1) and investors were attracted by the potential for good capital gains. 

Figure 1: Housing Sales Volumes 1998 - 2016

These changes were not unique to New Zealand. What happened in this country was part of a global pattern. Strong increases in housing prices were evident during this period in many western economies, notable examples being the UK, Australia, Canada and Ireland.

Post GFC

Following the GFC, there was a modest correction in housing prices throughout New Zealand, with Auckland prices dropping 10% by March 2009. Activity in the housing market was far below the pre-GFC level, with sales volumes low, and consumer confidence down. With the drop in values, many house owners just sat tight, opting to ride out the decrease in property values by doing nothing, and waiting in the hope that values would increase again. Low confidence was reflected in low demand for dwellings, including new builds. However, this was not simply an Auckland issue - between 2007 and 2010 (June years), the number of new consents tumbled by -46% in Auckland, and by -37% across the rest of New Zealand. 

The Auckland residential construction sector underwent major contraction with total employment (including working proprietors) dropping by -21% by 2010, and total employee numbers dropping by -28%, according to StatisticsNZ. The sector did not return to its pre-GFC size until 2014, although total employment grew by 18% to 2015 (Figure 2). 

The drop in confidence and building activity in the post GFC period caused a considerable slowdown in Auckland’s new housing supply throughout the period from 2008 until 2014, which meant that the consenting and supply of new dwellings lagged well behind population growth. This gap in new dwelling supply has been an important contributor to the increase in prices since mid-2012. 

Figure 2: Auckland Employment in Residential Construction and Support 2000-2015

Dwelling Prices

However, the post-GFC slowdown in price growth did not last. Between June 2012 and June 2015 Auckland prices rose by 52%, far ahead of the national change. The latest REINZ figures indicate further growth of more than 12% in the year to April 2016 which suggests the total increase since 2012 will be around 65%. Auckland is now showing both high rates of increase in dwelling prices, and considerably higher rates than the rest of New Zealand, and that difference has accelerated during 2014 and 2015.

One consequence is that Auckland dwelling prices have very obviously broken away from the trends in the rest of the country. Figure 3 below shows the annual rates of dwelling price change for Auckland and the rest of New Zealand since 1990. Apart from the mid-1990s, throughout the period until mid-2011, Auckland price growth was not markedly ahead of the rest of the country. Auckland’s price growth rates were higher but were not strongly out of kilter. 

Figure 3: Auckland and New Zealand Dwelling Price Changes – Key Periods 1990 to 2015 (source: CoreLogic, 2015)

However, since 2012 the difference in price growth is very marked between Auckland and the rest of the nation.

So what is driving this latest upsurge? Simply, the conditions which underpinned the price boom through the pre-GFC period have returned, but with greater effect. The principle drivers again include the ease of securing finance to purchase dwellings, stimulated by the strong competition among banks and financial institutions to increase their loan books, together with historically low interest rates making loans more affordable2, and in particular the record levels of population growth in Auckland driven by record in-migration. Investors are very active in the market, with returns from residential property being attractive compared with other investment options. While the residential construction sector has ramped up considerably, and numbers of new dwellings consented are growing steadily (9,566 to March 2016 compared with 7,940 a year earlier, and 6,530 just 2 years earlier), pent-up demand and new demand continues to outpace the supply of new dwellings. 

These key drivers are clearly recognised by the Reserve Bank, with Deputy Governor Grant Spencer noting in October 2013 that “the period of rapid price increases over the past two years has coincided with very low interest rates and easier bank credit. Banks have competed aggressively for mortgage business and this has contributed to a ramp up in housing demand, which has far exceeded the available supply…the supply of houses is an important determinant of house prices – but it is only one side of the story3…. house price inflation has accelerated only over the past two years, over the same period that credit conditions became easier and population growth picked up with stronger net inward migration.”

Population Growth and In-migration

Interestingly, this RBNZ assessment was made in late 2013, before the current in-migration wave had really started. Rates of in-migration have a strong effect on Auckland’s dwelling prices, particularly because a substantial share of migrants locate in Auckland, whether New Zealanders returning from overseas, or citizens of other countries. This is no surprise, because population growth drives demand for more dwellings. However, while growth from natural increase is steady and quite predictable, in-migration can generate considerable extra demand within a short time frame. Figure 4 below shows the very strong coincidence between the patterns of dwelling price growth in Auckland since the early 1990s4, and the levels of in-migration to Auckland5.

Figure 4: Auckland Net Migration and Dwelling Price Changes 1993-2015

It is also no surprise that the record levels of in-migration to Auckland seen since 2013 will have contributed strongly to the growth in dwelling prices. Figure 5 below shows Auckland’s population growth since 2006, and the contributions from natural increase and net in-migration. Over the period from 2006 to 2013, population growth was around 19,000 annually, mainly from natural increase. However, since 2013 Auckland’s annual population growth has more than doubled, and the latest Migration Statistics indicate that growth to June 2016 will be greater again. That means Auckland’s annual population growth over the 2014 to 2016 period will be about 2.25 times that seen in the previous 7 years, with about 22,000 more people each year seeking somewhere to live. 

Figure 5: Components of Auckland Population Growth 2006-2015 (2016 projected)

Auckland’s net inflow is very predominantly citizens of other countries, and the latest StatisticsNZ figures show there is still a net outflow of New Zealand citizens from Auckland. Consequently, over the 3 years to March 2016, Auckland region had a net migration gain of 72,052, made up of a net gain of 86,207 citizens of other countries, and a net loss of -14,155 New Zealand citizens (predominantly moving to Australia). This shows quite clearly that Auckland’s migration gain is due not to New Zealanders returning from Australia, but to citizens of other countries who wish to live here. 

Until 2013, the population increase translated to 7,000 additional dwellings annually (at 2.75 per household). However, the current levels of population growth translate to around 15,000 dwellings annually. This major jump in demand has come on top of the post-GFC construction slowdown – which was itself compounded by a deal of “wait and see” around the formation of the new Auckland Council – meaning that by 2013 Auckland already had a housing shortfall in the order of 14,000 dwellings6.

Given the strong causal connection between population growth and demand for housing, it is not a huge leap to make the link between the record levels of in-migration, and the on-going very strong growth in dwelling prices. An MBIE briefing to senior Ministers (including Mr English and Dr Smith) on housing affordability in 2014 identified7 a number of “options with a likely impact in less than 2 years include - Change migration settings [because]…Net inflows (particularly unexpected inflows) have large effects on house prices, as supply severely lags demand.” The likely impact of reducing migration was identified as a “…reduction on demand, depending on scale of migration reduction” which would be “…likely to particularly affect Auckland.”

All of which raises the critical question of why central Government’s focus is so strongly, and very predominantly, on land supply and the price of land as the cause of the dwelling supply shortfall and the affordability crisis, and on the removal of urban limits as a primary solution. 

Land Supply

Much of it seems to be based on the view that the rise in Auckland’s prices in the pre-GFC period was due to a shortage of land supply. And in this regard, a lot has been made of two simple ‘big-ticket’ numbers. One is the shift which meant that land value accounts for over 60% of Auckland residential property value, when historically land had been only 30-35% of a residential property’s total value (CV). The other has been the oft-quoted figure that land values inside the urban edge are 9 or 10 times those outside the edge, and the implication that the edge itself is responsible for the differential.

The Productivity Commission’s report into housing affordability8 attributed the increase in the land value component to a shortage of residential land in Auckland. However, that does not explain why dwelling price growth occurred across the whole country through the early 2000s, driven especially by easy credit and high consumer confidence. This price growth was very far ahead of population growth, in every region including Auckland, and occurred in regions where land supply to accommodate population growth was not an issue.

Also highly relevant is that a feature of the New Zealand local government structure sees each local authority requires a general property re-valuation every three years, during which the valuation service responsible (in most cases, QVNZ) has to examine the current property prices, as well as property trends and a range of other influences. That re-valuation means each (residential) property is assigned a land value and an improvement value which is consistent with sale prices in the locality. 

Rising Land Values

The re-valuations prepared in Auckland in the pre-GFC period had to be in line with the major growth in dwelling prices. A property’s capital value (CV) has just two component parts, the land value (LV) and the improvement value (IV). An important feature was that prices – and therefore values - had risen dramatically, but the replacement cost of existing improvements on residential properties had increased much more slowly. Since the CV must approximate the sale price, and there was limited underlying growth in the value of existing improvements, then the only other component to account for the increase in CV must be the land value. As a consequence, there were considerable increases recorded in residential land value for all of the TAs in Auckland as the re-valuations rolled out during this period, as shown in Table 1.

Table 1: Changes in Land Value Proportion of Residential Capital Value in lead-up to GFC, by TLA in Auckland Region

This suggests that the Auckland-wide increase in the land value component of capital value was driven quite strongly by the overall increase in the values of existing residential properties, rather than necessarily arising as a direct consequence of a shortfall in residential land supply.

That does not mean that the supply of land for new dwellings did not have some effect. The study into Auckland’s residential land supply for the Department of Building and Housing9  identified how urban limits have effect on both supply and development responses, though it also concluded that “….conventional density housing is projected to be exhausted by 2023. In Auckland City, North Shore and Manukau, conventional density land supply is projected to be exhausted between 2015 and 2016, or in 7 to 8 years’ time.” However, the fact that there was 7 to 8 years’ conventional capacity remaining by 2008 indicates that land supply was one of a number of influences on the Auckland market. Consent numbers had declined considerably after 2004, the decline coinciding with a sharp drop in consumer confidence in 2005 - confidence generally being a good lead indicator of housing development trends10  - as well as a slow-down in net in-migration, and a slowing in dwelling price rises at that time. Hence, there is considerable evidence that a shortfall in residential land supply in Auckland was not the sole, or even the primary driver of the growth in dwelling prices, or of the shift in the structure of residential property values which saw the land component exceed the improvement component from the mid-2000s. 

Also in direct contrast with the view that “the price of land is the primary problem” is the research undertaken for MBIE - and contained in the November 2014 Ministers’ briefing alongside the advice on migration policy. This identified in relation to HASHA/Land supply that “ If land prices fall by 1% per quarter, the NZ Regional Housing Model forecasts that house prices will only be 0.2% lower after 5 years11.” Simply, their research showed that a drop of -19% in land price could be expected to lead to a drop of just -0.2% in house prices. 

Abolishing Urban Limits?

Finally, setting aside for the moment the question of whether land supply and land price is the key villain in the housing market drama, the obvious question is how effective the “solution” of abolishing urban limits could be, especially in the short to medium term. Identifying land for urbanisation and getting it serviced, developed and released to the market is not a short term solution to housing prices - it does not happen overnight. Any effect which the removal of urban limits might have on land prices would take a considerable time to flow through, first to raw land prices, and subsequently to dwelling prices. 

Moreover, the PAUP already would provide for new urbanisation over a very large area of land (12,000+ ha of Future Urban zone). It is not clear how signalling that yet more land can be urbanised is expected to reduce the cost of land, when that land already identified will take quite a few years to service and develop, and require very large expenditure on infrastructure12. It is difficult to see how allowing more land to be identified as potentially urban would have any material effect on housing prices - just as the research for MBIE showed – and particularly how it could offset the much, much stronger influences of migration growth and easy access to finance.

The Auckland urban economy needs its future form and efficiency to be guided by solid evidence – not shaped by migration policy.


To read the next article in this series, click here.


For further information about this article, please contact Douglas Fairgray, 09 915 5514 or doug@me.co.nz
 

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Footnotes:

1. Prime Minister’s post budget address May 27 2016

2. These effects are further compounded because the equity of most existing dwelling owners has been boosted considerably by the increase in the apparent value of their properties, which acts to encourage their move into property investment – a shift which is especially attractive to the baby boom generation which is now moving into its retirement years.

3. Trends in the New Zealand housing market, paper to PCNZ by Grant Spencer, Deputy Governor RBNZ, October 2013, p2

4. CoreLogic Dwelling Price Index, 2015

5. StatisticsNZ 2015

6. Statistics NZ 2015

7. MBIE: Housing Affordability: Outlook and Opportunities: Ministers’ meeting 25 November 2014, p14

8. Productivity Commission: Housing Affordability Inquiry March 2012.

9.  Market Economics and Harrison Grierson Consultants. Adequacy of the Auckland Region’s Residential Land Supply, for Department of Building and Housing September 2008, p3 

10. WestPac McDermott Miller Consumer Confidence Index 1988-2016.

11. MBIE briefing to Ministers – Housing Affordability: Outlook and Opportunities 25 November 2014, p7

12. The work done for the Future Urban Land Supply Strategy for the PAUP indicated that only about half of the proposed 12,123ha of the land proposed as Future Urban zoning would be serviced by infrastructure to be on stream by 2026.

   

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