A 40 per cent fall in house prices?

I noted the other day that I had disagreed with a fair amount of what was in Arthur Grimes’s recent piece on fixing the housing market (both the Spinoff piece, and the earlier Herald account of his remarks).  Arthur is quite clear in his value judgements, and mine differ: I don’t think there are good grounds for riding roughshod over the rights and interests of existing residents, in pursuit of some bureaucratic-political vision of a bigger Auckland.

But where I strongly agreed with him was that making home ownership affordable again means that house prices have to fall.  And they have to fall a long way.  If price to income ratios are around 10 in Auckland today and are around 3 in places with well-functioning housing markets, it might be desirable if house prices today were as much as 70 per cent lower than they are now.   Allow for some growth in nominal incomes over the next decade –  perhaps 3 per cent per annum (2 per cent inflation and 1 per cent productivity –  both ambitious assumptions by the standards of the last few years) and even a 50 per cent fall in nominal house prices over that time would only get Auckland house prices back to a price to income ratio a little under 4.

So when Arthur Grimes suggested that politicians should think in terms of actions that would bring about a 40 per cent fall in house price, in some ways he was being quite moderate.  Perhaps he shouldn’t have used the word “collapse” as his goal, but that sort of fall is what making home ownership affordable actually means.    Alternatively, I suppose, nominal house prices could hold at current levels and in 35 to 40 years time price to income ratios might be back to respectable levels.  And another whole generation would be doomed to barely affordable houses..

Perhaps fortunately, the Grimes remark prompted the Prime Minister to reveal what appear to be his true colours on housing.  He simply dismissed the Grimes suggestion of a 40 per cent fall in house prices as “crazy”.  He could have said “well, I don’t want to get bogged down in precise numbers, and one has to remember that some people will be adversely affected if house prices fall”.  But no, the Grimes suggestion was “crazy”.

It betrayed a fundamental lack of seriousness on the part of the Prime Minister and the government about making housing affordable, and in fixing the dysfunctional market that they –  and their Labour predecessors –  have presided over.   Since the Prime Minister is often quoted as suggesting that high Auckland prices are a sign of success, a “quality problem”, or just the sort of outcome big cities everywhere have, why would we be surprised?  Grimes notes that no politician has been willing to give a a straight answer on how much they wish house prices to fall.    Perhaps there is some role for “constructive ambiguity” in such areas but I had a lot of sympathy for Arthur’s line:

I suggest that this simple question should be asked every time a politician (of any stripe) talks on the subject. One can then see if they are really serious about making house prices in Auckland affordable for ordinary people.

And one only has to look at the “policy solutions” the government has proferred over recent years.  This time two years ago, the Prime Minister launched National’s election campaign with increased subsidies for first-home buyers –  a scheme opposed by officials who recognized, as everyone knows, that those sorts of subsidies flow straight into house prices.

Last year, the clever wheeze was altering the points scheme to encourage more of those gaining residence approvals in New Zealand to move somewhere other than Auckland –  thus perhaps very marginally easing house price pressures there, while guaranteeing a slight worsening in the average quality of the migrants who get residence approval.

And this year it was the infrastructure fund –  the $1 billion headline, with seemingly no details behind it, and involving interest-free loans from the rest of us to councils in places with fast population growth (and rapid future income growth).  Wasn’t this the party that, not that long ago, (rightly) thought that interest-free loans to students with good income prospects was simply bad policy.

We also now have talk of the government seizing private property.  David Seymour was quoted suggesting it sounded like a Venezuelan solution –  although, in actual fact, the idea came from the (admittedly rather statist) Productivity Commission, one of ACT’s earlier policy wins.   Whatever the source of the idea, it is another example of the vision, the dream, of the “big Auckland” potentially trumping the rights of private citizens.  Or perhaps just wanting to sound as if something might be done.  Populist bashing of “land bankers” keeps ignoring the fact that land scarcity, of the sort that makes “land banking” expected to be profitable, is the result of regulatory restrictions presided over by central and local government.  From what I’ve read of the draft National Policy Statement, there is nothing in the works that will fundamentally change that.

Would 40 per cent lower house prices be a problem for some people?  Well, yes, of course.  Big relative price changes often are.    But it becomes a bigger, and more constraining, problem the longer any correction is deferred.    Most people in Auckland didn’t enter the property market for the first time in the last five years or so.   Those existing home owners are no better off as a result of the extraordinary increase in house prices, and would be no worse off if structural reforms (whether increased supply or reduced population growth) reversed the increases of the last five years.  Those who have bought in the last year or two could be in some difficulty, but even then everyone’s situation is different.  For someone who bought three years ago with an 85 per cent LVR loan, a 40 per cent in house prices now might leave them with little or no equity.    But they didn’t have that much equity to start with.  There isn’t much risk of them losing their home –  the ability to service the debt is what counts and that depends more on unemployment than house prices.

We are often reminded that a large proportion of purchases in the last few years have been made by the much-maligned “investors” (no doubt the Deputy Governor will indulge in that populist game again tomorrow night).    That isn’t really surprising, given how high prices have got, making it very difficult for young people to get on the home ownership ladder.  But for those “investors” (residential rental business owners) what is the worst that can happen?  Perhaps their highly-leveraged business operation fails, and their lenders take some losses.  That is what happens in a market-economy.  Many businesses fail.  People take risks, and sometimes they get things wrong, or circumstances change.  Their businesses fail and in most cases they pick themselves up and start again. Is it tough for them?  I’m sure.  In the same way, it is tough for ordinary workers who lose their jobs and incomes in a recession and often take quite some time to get established again.

And if some people will suffer in house prices fall, that is only the quid pro quo for relieving the pressures (“suffering”) on whole classes of people who find it desperately difficult to afford a house at all, especially in Auckland –  the younger, the less well-established, the newer arrivals, those without wealthy parents to fall back on.    If one puts together all the Prime Minister’s comments, it seems that he would be content if only the rate of increase in house prices  from here slows down –  even just for a few months at a time – and he has little or no fundamental interest in getting real or nominal prices back down again. He  seems to have no real interest in doing what might be necessary to make housing affordable again.

How else to interpret him playing distraction yesterday by urging the Reserve Bank to impose yet more controls.  Perhaps there is a case –  in the soundness and efficiency of the financial system, the only statutory grounds the Reserve Bank has to work with –  for more controls. The cases made for the successive waves of controls to date haven’t been very convincing, but perhaps Spencer and Wheeler have some persuasive new analysis up their sleeves.   But everyone recognizes –  the Reserve Bank foremost among them –  that such controls aren’t the answer to the housing problem.  Perhaps such controls can reduce banking system risk a little – the evidence isn’t clear even on that point –  at the cost of undermining the efficiency of the financial system, but to the extent such measures have an impact on house prices and house price inflation it is for a matter of months only.

After that initial relief –  which simply provides cheaper entry levels for people not directly affected  by the controls –  the underlying forces shaping supply and demand for housing reassert themselves: a “rigged” land supply market running head-on into the effects of policy-fuelled rapid population growth.  Without fixing one or both of those factors, there is little prospect of houses being much more affordable for long.  Tax changes are not the issue –  we know that from cross-country experiences.  But, implicit in his dismissal of Arthur Grimes’s proposition, the Prime Minister and his government don’t really seem to care.  They seem happy to cement in something like the current woefully awful market outcomes –  where fewer people than ever can buy a home, at ever older ages –  just so long as the headlines about high rates of increase abate for a few months.  It is pretty disheartening.  Frankly, I think it is worse that that; it is pretty disgraceful.

Of course, the other reason people might be uneasy about large falls in house prices is if such falls resulted in serious banking system problems.  But we  –  and the PM – know the results of successive waves of Reserve Bank stress tests: faced with a savage fall in Auckland house prices, and an increase in the unemployment rate unprecedented in modern times in countries with floating exchange rates, the banking system comes through pretty much unscathed.  A reader recently reminded me of a good 2009 speech on stress tests etc by a senior Bank of England official.   In that speech, Andrew Haldane identified a five point plan that would enable us –  following the 2008/09 financial crisis –  to be more comfortable with stress test results in future.  On my reading of that list, the Reserve Bank’s tests score well on all counts.  Perhaps as importantly is a point Haldane didn’t include in his list:  at times it suits supervisors to not be too demanding in their stress tests, so that they don’t face pressure to force banks to act.  In the Wheeler years, the Reserve Bank has been dead keen to act, imposing ever more controls.  It would clearly be in the Reserve Bank’s interests –  in making the case for controls –  if the stress test results were worse than they actually are.

Perhaps as importantly, the stress tests are premised on a scenario in which the unemployment rate rises hugely –  a very severe recession, worse even than New Zealand experienced in the early 1990s.  But if house prices fall because there is the potential for much more supply on the market, that isn’t a recessionary force, but if anything an expansionary one.  The banking system would cope just fine with a liberalization of the land and housing supply market.

I’ve always refused to call the Auckland (or wider New Zealand) housing market a bubble. The disastrous results seem to be a predictable outcome given the combination of land use restrictions and extraordinarily rapid population growth –  structural features of the policy regime, not signs of irrational exuberance (perhaps especially not in an economy generating such weak per capita income growth).    Sometimes circumstances can take care of these problems –  perhaps we’ll have an unexpected annual outflow of 40000 people for a few years –  but the structural imbalances that have skewed the housing market so strongly against ordinary people starting out is largely a policy problem. and one that needs p0licymakers to fix.  Based on his comments in the last few days –  and his actions in the last few years – the Prime Minister doesn’t seem to care, if only the headlines would abate.


26 thoughts on “A 40 per cent fall in house prices?

  1. House prices are rising 10k a month across NZ… thats $13.69 an hour , 24hours a day TAX FREE, adjusting to 8hour days and removing weekend its a rate of $41 per hour 7 days a WEEK,

    All young people need to do is stop drinking coffee, watching sky and get another job the lazy …..

    And you tell the young people of today and they WON’T Believe you….

    Liked by 1 person

    • I am in Melbourne today meeting an old mate who used to be an accountant now into real estate and property development. He is talked about buying a property 6 months ago forn $1.5 million. He will build a new house, build cost $1 million and he will sell that house for $5 million. He says prices in Auckland is rising far too slow. NOTE FAR TOO SLOW compared to a city like Melbourne.


  2. Good article Michael.

    So our options to achieve affordable housing are;

    1. Build our way to affordable housing by some combination planning/infrastructure reforms allowing greater state and/or private sector building.
    2. Stop immigration and hope the mass exodus of kiwis resumes?

    Liked by 1 person

  3. In every article I read on the ‘price to income ratio’ the focus is on the price side of the ratio and considering what may or may not be done to adjust the price or the price change. I have yet to hear or read of a politician, banker, economist, business-leader, journalist or blogger consider the othe side of the ratio. In my eyes the only soultion to the New Zealand housing crisis is for incomes to rise significantly above current low levels. You may go and compare with incomes in other countries but that will use our inflated exchange rate.


    • With the distorted “supply of land” problem, rising incomes flow straight through to higher urban land prices. This is classic “monopoly rent” or “monopolistic competition”.

      There are plenty of examples of median multiple 3 cities with low incomes and median multiple 8+ cities with high incomes. Try Atlanta versus San Francisco, for example. It does not matter what incomes do; the median multiple will be 3 in Atlanta. If incomes fell, house prices would fall.

      It does not matter how much incomes rise in SF; the median multiple will remain high and volatile. Same in Auckland.


  4. As I noted to you last week, most corss-country income comparisons use purchasing power parity (PPP) exchange rates, not market exchange rates.

    Totally agreeing on the desirability of raising trend productivity and income growth – and, of course, I”ve long argued that materially lowering our immigration target would help do that


    • So your answer is to stop the 30K returning kiwis from coming back to NZ? They are back from Australia due to loss of jobs. They inevitably end up in Auckland. The 25k leaving come from all over NZ but those coming back usually end up in Auckland looking for jobs.


      • The 30K returning kiwis do afterall form part of permanent and long term migrants.


  5. That is a great article! I like the point about the urgency to to address the problem – as the longer it is left the more higher priced houses are sold with over-sized mortgages. I think on average NZ houses sell every 6 years – so high prices for 6 years will see the equivalent of every house changing owners at the inflated value. So although the banking system would cope right now it may not handle a crash so well in a few years time.

    I would also wonder about Kiwibank – as being the newest bank it wont have a high proportion of old 25 yr mortgages with high equity like the more established banks. Luckily Bill English had said after the sale by Postbank that there is an implied Govt guarantee – so we can all enjoy any loss!

    Liked by 2 people

  6. Thanks

    of course, if the average house turns over every six years that would still mean it took 12 yrs for the whole stock to in effect change hands at higher prices. in fact, my impression is that the median time to turnover is a bit more than 6 years


  7. Would somebody please explain to me how it would have been possible for house prices to rise so fast if banks actually were what every economics student is taught, and Mankiw, the textbook used at The University of Auckland, says — financial intermediaries that take in money from savers, aggregate it, and on-lend it to borrowers, making an honest living from the difference between the interest rates that they pay savers and the interest rates that they charge borrowers?

    In fact, every time a bank makes a loan, it creates out of nothing the loan principal simply by entering the amount of the loan principal into the borrower’s, or the borrower’s agent’s, bank account. The converse is true, that every time a loan principal or part thereof is repaid, it disappears back into the nothing from whence it came. In this way, when loans are being granted at a faster rate than they are being repaid, the money supply can grow at a rate several times the rate of economic growth, driving asset bubbles. In the view of monetary modernisers such as myself, and also prominent UK economist and former chairman of the UK’s Financial Services Authority Lord Adair Turner, and many other economists, this is precisely what has been happening.

    In our view, central bank governors are merely toying around the edges, and are more or less ineffective in putting the brakes on housing bubbles, wherever they may be.

    Those who may disagree about what banks do are referred to the Bank of England papers “Money creation in the modern economy”:


    and also the Bank of England paper “Banks are not intermediaries of loanable funds – and why this matters:



  8. I’m always impressed by your ability to churn out 2000 words a day of well-polished prose with very few typos, Michael!

    I agree that it can’t really be called a bubble if it’s an outcome of systematic government policy, not animal spirits.

    It seems intuitively clear that many problems we face such as high house prices, high debt levels, underfunded pension plans, would be improved if interest rates were at their “normal” levels (say around 5-7%). Yet few a calling for the resetting of inflation expecations that would put us on the path to such levels.

    Liked by 1 person

    • Funny you should say that. I almost included a para in the post noting that a higher inflation target might help square the PM’s circle – lowering real house prices, without material falls in nominal prices (and after it is mostly the nominal that risk loan loss problems. Of course, since the Bank isn’t hitting the current inflation target, and the MOF appears to think (at least publically) that we shouldn’t given them too much stick over that repeated failure, it (a) seemed like a distraction, and (b) sadly, a vain hope…

      (of course, if we had the income and productivity growth consistent with much higher interest rates we might have some rather rational exuberance after the experience of the last decade.)


      • In a Sovereign Money system, where all new money would be created ex nihilo by the RBNZ at a rate just sufficient to keep the rate of increase in the CPI within the government-mandated target band of 1-3% p.a., and gifted to the government for spending into the real economy according to its democratic mandate, banks would be forced by law to become mere financial intermediaries, and would no longer be money creators.

        The OCR would no longer exist, and Interest rates would no longer be influenced by the governor of the RBNZ. Instead, interest rates would be set by the market — at the intersection of the supply and demand curves.

        What’s not to like about that?


    • I agree with you 100%, Blair! Not only that, but also Michael makes more sense and understands the way the economy works better that any politician currently in the National party.

      Liked by 1 person

    • You cannot run an interest rate policy in isolation from what the rest of the world is doing. WITH Japan and Germany running negative interest rates, Singapore at 1%, US and UK around 3% and Australia at 3%, ours at your intended to 5% to 7% would be ridiculously too high even if our incomes and productivity is at an all time high. To ignore what the rest of the world is doing is just plain and simple, naive.


      • in fairness to Blair, I imagine he thinks the rest of the world would benefit if conditions there also warranted materially higher interest rates. Actually, I agree with him, but don’t see the suite of policies – or circumstances – on offer at present that would justify such higher rates


      • Yes, to clarify, I don’t mean CBs should put up interest rates. Rather they should make a commitment to restoring inflation and inflation rates to the historical range … .this probably involves cutting rates in the short term, not to mention lots of associated guidance and open market operations. You would probably see rates starting to move up at the long end first.


  9. Well you have to remember that Key is firstly a politician… and when a policy wonk says something a politician doesn’t like then the wonk gets taken down… And its just not National… Michael Cullen used to do it all the time to Treasury when he was Min of Fin and he didn’t like their advice…

    Anyway, its all very well to say we need X, Y or Z new houses to solve the affordability ‘crisis’… but how? Its not the number of houses that matter, but the time and expense taken to build them. The Govt has launched its infrastructure fund, which is a start, but its more fundamental than that…

    Eric Crampton’s piece at the Spinoff identified the lack of large scale developers and a council and supply chain biased against large scale development. Just look at the stupid amount of time it too Long Bay to get developed (10+ yrs)… Fletcher’s are all in on it 1,500 resident’s development at 3 Kings and its bogged down in the Courts… Todd’s are sitting on land waiting for Panuku Dev Auckland to pull their finger out of its proverbial…

    Its all very well to beat up on people and say Key’s a dick… but how does one solve for council interia, lack of scale in property development in NZ and a clear lack of interest in NZ from offshore property development companies (well maybe a couple of Chinese companies but they are learning how hard it is in NZ)…

    There are loads of people wanting to do development… but its very hard work, high risk and all the profit is at the end… Is there a better way?


  10. Two scattered thoughts only:

    – I have heard it suggested that the lack of large scale developers in endogenous to the regulatory regime. Free up land, more generally, and it is likely we’d have more people operating at scale
    – cut back immigration (permanently) and some of the issues recede in significance

    At a political level, caring about a much better outcome would be a start. It tends to help find ways thru the morass, negotiate deals etc.

    A friend suggested today that good policy requires a hard head and a soft heart. Whatever one thinks of the specifics of the 1984-93 politicians and bureaucrats I think they had that – they really cared about making a difference and thought hard (and at times wrongly) about how to make that difference happen

    It is less clear to me that today’s politicians and bureaucrats care much. Transactional politicians rather than conviction ones, and officials too easily respond to incentives.


    • Cutting 14k migrant arrivals does not help. Cutting 36k international students and foreign workers from getting residency does not help. They are already in NZ. All they are getting is a rubber stamp on their passport. You are getting confused with numbers on a piece of paper. They are real people and they already live in NZ and taking up accomodation. Send them home so what? We get more students in to replace them. It makes no difference. So you are effectively not dealing with 50k, you are only dealing with 14k actual arrivals each year.

      We are targeting 4 million tourists. Our education institutions are spending to the tune of $2 billion on student infrastructure and you can expect 200k students each and every year. As it is we struggle to find doctors and nurses and rest home workers locally.it is nutcase economist policy to try and expect fewer and fewer young people to look after more and more old people.


    • Our politicians are guided by our experts but our experts that hold any influnce appear to be economists ie banking economists, Treasury and the RBNZ. The problem with most economists is they can’t even read a set of financial statements and we expect them to run the countries finances.


      • It’s even worse, getgreatstuff. Economists are taught at school and university that banks are financial intermediaries that take in money from savers, aggregate it, and on-lend it to borrowers, and that banks make an honest profit from the margins between the interest rates that they pay savers and the interest rates that they charge borrowers.

        That’s why Treasury and RBNZ economists (but not, thankfully, former RBNZ economist Michael Reddell) believe that government should never borrow freshly created money from the RBNZ, as that would be inflationary, whereas for government to borrow what they believe is existing money from banks is not inflationary. Even Bill English believes this nonsense. I have a letter from him to prove it!

        Reading and understanding the Bank of England paper “Banks are not intermediaries of loanable funds — and why this matters” should be compulsory for all Treasury and RBNZ economists, as well as all MPs. The pdf file of this paper can be downloaded from the bank of England website at this URL:


        The paper explains the fact that banks are money creators and are not financial intermediaries, and why this is important to understand.


  11. I read the Grimes article. The 40% drop has more to do with dropping the median price with building of highrise buildings.He actually is the first economist that has talked any sense. The headliner is rather misleading and I think it has more to do with selling newspapers rather than the point that Grimes was trying to make and that is we need tower blocks like the Gold Coast which is 40 to 50 level tower blocks on the central waterfront properties.

    He talks about compromises between the NIMBY groups and the future which is apartment living.

    I don’t think it is practical to face the wrath of the lawyers that these prime suburbs can muster so we need to look at Mt Roskill which is decile 5 for highrise tower blocks. As many as we can build in Mt Roskill as quickly as possible. FIRSTLY CHANGE the Unitary Plan designation for Mt Roskill from single dwelling to 18 levels of apartments. The stupidity is that there is not reason to keep Mt Roskill low rise. It is purely for aesthetic reasons ie visual height limits of Mt Roskill.


  12. @getgreatstuff… The problem is the sight lines of the volcanic cones… the big rule in Auckland is no obstructing the views of the volcanic cones (Mt Eden, Mt Albert, One Tree Hill etc)… which to those outside Auckland sounds like nothing, but for the local politicians its a huge deal breaker….

    Also, while Grimes’s numbers are spot on I’m not sure that there are a whole bunch of NZers (and more particularly Aucklanders) willing to adopt a high rise apartment lifestyle… most people, even in Auckland self select for houses… not apartments and not terrace houses etc… people still have to buy these things and they ain’t going to get built if there aren’t buyers at the other end…


    • High rise cities are the norm. Sydney, Melbourne, Houston etc have high rise central cores that are 3000skm compared to our tiny 500 skm high rise core. We have 1600skm of high rise spreading across 4 cities, Manukau, Albany, New Lynn and Auckland harbour. This equates to expensive infrastructure to link the cities.


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