OECD report puts spotlight house prices

The OECD (Organisation for Economic Co-operation and Development) came out with a report that put house prices in the spotlight.

Particularly, it came out with this chart:

OECD house prices

 

It found that house prices in Belgium, NZ, Canada, Norway, Australia and the Great Britain were overpriced. But overpriced compared to what?

The basis for this conclusion was based on comparing NZ house prices to the long term average price growth. The assumption is that long term average prices grow at 2 – 2.5% per annum.

Anything higher than the average price increase of 2.5%, and the report classifies it as overpriced.

But is NZ and Australia house prices really overpriced?

What the OECD report doesn’t take into account is the changing demographics in these 2 countries.

Increasing immigration to NZ and previously Australia has led to increased demand for housing in these countries.

Due to the structural factors in the property market, Supply is slow to respond to increases in demand. Thus, when increases in demand outpaces supply, house prices rising faster than the long term average. Coupled with low interest rates, shortage of housing supply can lead to a house price boom. This is what has happened in New Zealand and Australia over the last 10 years.

The OECD report warned of a major correction, much similar to the GFC in 2008. Except this time, the OECD said that the property market would be at risk.

Sharemarkets are global markets.When a major share index drops (Dow Jones, NASDAQ or the NIKKEI), it can usually quickly flows to other share markets (ASX and NZX).  Property markets are local markets. While funding and interest rates affect house prices, local factors (such as location and demographics) have a significant impact on the house prices.  This is the key difference between shares and property. Sharemarkets in western economies are correlated with each other. They tend to rise and fall together. Property markets follow a different set of dynamics and just because the USA property market crashed in 2008, Australia and New Zealand did quite fine. The reduction in lending in 2008-2011 did lead to slowing demand in NZ and Australia but after the market adjusted, it continued to boom from 2012 onwards.

So should we be afraid?

The OECD is just highlighting the risks of increasing household debt relative to income. If the world plunges into a recession again as it did in 2009, those households who cannot service their debt will be hit hard.

So their advice is to be aware of the risks of overleveraging. This is the key lesson to take away from the OECD report.

Although house prices may drop from time to time, it is clear from their analysis that in the long term, average house prices will increase. The OECD put the long term average as +2% to +2.5% but it can vary from country to country.

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