What’s driving house prices in Sydney and Melbourne? | KPMG | AU

Housing affordability: What’s driving house prices in Sydney and Melbourne?

What’s driving house prices in Sydney and Melbourne?

Housing affordability has gained even greater prominence recently. In this short paper, KPMG’s Chief Economist Brendan Rynne examines the drivers of house price movements in Sydney and Melbourne, and presents forecasts of house prices given expectations of how drivers have now been influenced by various government interventions.

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Partner, Chief Economist

KPMG Australia

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Since the release of KPMG Economics Research Report Housing Affordability: What can be done about the Great Australian Dream in October 2016, the topic of housing affordability has gained even greater prominence, primarily due to the continued rise in house prices in Sydney and Melbourne.

In the 2017 Federal Budget, the Commonwealth Government has announced a range of measures which are aimed at ‘putting downward pressure on rising housing costs’, with the Treasurer even acknowledging in his Budget speech that “there are no silver bullets to making housing more affordable”.

Some of the findings:

  • Housing markets are not homogeneous across Australia’s states and territories. Housing markets are not even homogeneous within each state or territory, with market dynamics different between capital cities, major towns and rural and regional locations. The relationships between local, regional and state housing markets are complex as is the relationship between housing markets generally and the broader economy.
  • Conventional wisdom suggests house prices are primarily influenced by factors like interest rates, building activity and population growth. These factors do not influence house prices in isolation, but rather they work in combination; often counter balancing each other to some degree. When house prices move in an ‘abnormal’ way it is because one or more of these drivers become distorted relative to their ‘normal’ settings. 
  • Sydney house prices have become more pronounced and volatile since the GFC, albeit without the same degree of volatility in the supply, demand or cost variables. It appears that when the labour market and monetary policy are stable, investing in housing is more attractive as the underlying market risk is lower in these circumstances.
  • KPMG anticipates both foreign investors and domestic investors will be less active in the market over the coming years due to the introduction of additional prudential controls and the adoption of new measures such as those outlined in the Budget and those recently implemented by some State governments, including increased stamp duty rates and vacant property taxes for foreign buyers. 
  • Much applied economic research has focused on what are the primary drivers influencing house price growth in Australia. KPMG Economics has found that an error-correction model to be a useful aid in further understanding the behavior of the Sydney and Melbourne housing markets. Using this approach KPMG Economics found evidence of a long-run relationship between house prices and variables relating to the stock of dwellings, population and borrowing by residential property investors. 
  • Our analysis suggests that while short term factors have pushed median dwelling prices for Sydney and Melbourne above their long term equilibrium prices by about 14 percent and 8 percent respectively (as at the end of FY2016), this degree of disequilibrium has been experienced previously in these housing markets and they have managed to return to equilibrium without price movements resembling a ‘bursting of the bubble’.
  • KPMG Economics sees no reason why this will not occur again, and our forecasts suggest the Sydney housing market will experience a greater adjustment than will Melbourne, but nonetheless this adjustment is unlikely to be abrupt or to significantly overshoot the long run equilibrium price on the downside.

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