Don't expect a deluge of new homes to bring property prices down
Should an influx of new homes hit the market as the construction sector overcomes its challenges, property prices are highly unlikely to fall as a result.
Over the last three years, there has been an avalanche of talk about how to get Australia’s construction industry into shape so it can pump out more product and solve the housing affordability issue.
If you’ve been one of those investors concerned that the market could get swamped with new housing resulting in price falls, don’t be.
Not only is the promised surge in residential construction unlikely to materialise, even if it did, it wouldn’t have a big effect on house prices.
The ‘supply lie’
Within the industry, many of us have developed a cynical view on the housing debate, which has recently boiled down to simplistic and misleading terms.
The first of these is the idea that supply is all about building new homes as every migrant who comes to Australia needs a “roof over their head”.
Most migrants don’t need a new roof at all, with the majority of students staying on campus or at purpose built student accommodation (PBSA) and family reunification applicants moving in with relatives already here.
Secondly, you have to wonder if building more homes is the simple solution to the problem in the first place.
If residential construction was an Olympic sport, Australia would be up for a medal at every games.
This year, we would win silver with the gold going to Switzerland - another country with sky high home prices, high household debt and sections of the media blaming the affordability problem on migrants.
While migration does add to overall demand and construction does add to overall supply, that’s not the whole picture by a long shot.
For starters, we didn’t have anything like the problems with housing affordability in the 1950s to1970s. That’s despite this period also seeing high migration and home building at roughly the same rate as today.
Australia consistently builds more housing than the countries with whom we usually compare ourselves.
As this chart shows, our most recent construction boom came at a time of falling interest rates and a massive federal government intervention during the Covid period.
Yet despite net migration falling below zero and construction rates increasing significantly, house prices surged across Australia.
1.2 million homes? Be careful what you wish for
Federal housing minister, Clare O’Neil, has called for a greater effort to improve housing construction to meet the government’s target of 1.2 million new homes by 2029 under the National Housing Accord.
As my dear old dad used to say, be careful what you wish for.
For one thing, the reason construction has decreased over the last two years is mainly due to lower buyer demand thanks to higher interest rates.
Despite all the announcements by governments and sympathetic words from business leaders, in most parts of the country, home building is falling.
And while it may seem counterintuitive, a big push to lift Australia’s construction rate could lead to a home prices spike rather than stabilisation.
How could this happen?
Developers don’t just build new houses on the urban fringe and apartments in the city. When the market is booming, they’re also active in middle ring and long established outer suburbs, buying up existing homes for development into villa units and townhouses.
While these ultimately will add to supply, in the interim, this process takes homes out of the market.
For starters, developers are often top bidders at auctions with a willingness to spend more than home buyers or investors, pushing median prices up.
And when successful, they typically leave a recently bought house unoccupied while they negotiate the design and planning application process, which can take anywhere from six months to two years.
Following that, there’s the construction phase – anything up to a year - and then the marketing of the new properties to buyers.
The purchase to completion process can take homes out of the market for two to three years or more.
It’s not an inconsequential volume of properties either. During strong market years, developers typically represent 20 to 30 per cent of sales in middle ring suburbs.
Approvals versus completions
With the larger developers building complexes of units, there are often longer delays.
A recent report by SuburbTrends for MCG Quantity Surveyors highlighted the issue, finding one in six approved unit projects around the country have failed to move through to completion.
In some areas of Sydney, less than 60 per cent of unit approvals have progressed through to completions.
Problems obtaining finance, not meeting pre-sales targets (usually around the 50 per cent - 65 per cent mark), indifferent market conditions, high interest rates and a lack of skilled labour can see approved projects stall for years.
And at the moment, many of the challenges that hamper new developments are in play.
That’s why NSW introduced a pre-sale Finance Guarantee package, which will see the state government act as a guarantor for certain housing projects.
Mismatch between housing and home buyers
The housing affordability debate has focused heavily on quantity measures that, while relevant, are only part of the equation.
Just as important is the ability to build housing matched to the changing make up of Australia’s population.
The Grattan Institute’s How to make housing affordable report neatly summarises this issue of mismatched construction.
As the proportion of singles and couples grows, planning regimes constrain the building of what many of these households actually want - medium and high-density housing that sacrifices price and size for a convenient location.
This mismatch is an important yet typically overlooked factor in the affordability debate.
Construction unlikely to impact real estate prices
The bottom line for investors is that improving residential construction rates and the ability of governments to contain house price growth remains problematic.
With interest rates creeping downwards and buyers’ capacity to borrow heading upwards, the chances of new construction having any impact on house prices in the short and medium term is next to zero.
