So while new motor vehicle sales have recovered the magic million mark (from the ABS here):

The trend is sales volumes has turned decidely southward:

Perhaps more poignant for the state of the consumer is the renewed downtrend in retail sales (from the ABS here):

Retail sales are under seige.

1) The Australian consumer has woken to the benefits of online shopping. And while the government might be tempted to fall in behind the persuasive bulk of our major retailers, the sheer magnitude of the efficiency gains offered through the internet mean that the consumer has a good chance of winning this battle. In any event, it is likely to cost more to enforce a widening of GST payable on online sales than it would generate in tax revenue. (Note that the ABS Retail Sales data is based on a survey of 500 large businesses and 2750 smaller businesses – that pay tax in Australia. I’ve asked the ABS how they are going in trying to capture online sales growth – it’ll be interesting to see what they say.)

2) And that is before the deleveraging of the Australian consumer has really begun. Note the growth rate of household debt remains in excess of the inflation rate and most paypackets with average weekly earnings rising 4.7% (ABS trend estimate) in the year to August 2010:

So the cards are really stacked against the retail sector. My guess is that we have already entered a new era in retail sales growth. At best we might match 1.5% p.a. growth rate of the early 80′s over the next decade. Even more likely, a repeat of the early 90′s no growth scenario can be expected for the next year of two.

Conclusion – While valuations have improved in the retailers of late, the dual headwinds of the overleveraged consumer and emergence of online shopping suggest that patience and shot selection will be rewarded for investors in the sector. Likewise, the once impregnable shopping centre property trusts are likely to struggle. Westfield’s recent restructure is as good a sign as any that even the big end of town are worried about these trends – the head trust is certainly more attractive with a reduced weighting to Australian assets but there is no need to jump early on this one.

Here we have the current account deficit pulling back under $5bn for the first time in the better part of a decade – driven by exports of coal, iron ore and all sorts of resource rich items. Of course, that worrisome red worm (generically ‘capital flows’) is the one that is denying Australia the current account surplus we so richly deserve. This is the fat finger of our foreign debt burden coming back at us.

It’s an issue of ‘banana republic’ proportions that is likely to resurface if our trading partners decide to throttle back on the imports.

As we discussed back in June (here), our net foreign debt to GDP puts us amongst some awkward company. While that is not the same as saying we have reached our credit limit, it does suggest that our sensitivity to global risk premiums is high. It also hints at how the market might come to view our lucky country economy if things go pear-shaped in China.

Looking at the growth in debt to GDP slightly differently consider the following chart:

Now remembering that GDP is the sum of consumption, investment, government spending, and the trade balance (C+I+G+X-M) then this chart raises the obvious question as to where did all that debt go?  There seems to have been a leak somewhere as GDP growth trailed behind that of debt.

The answer lies in the definition of ‘investment’.  It doesn’t include the acquisition of pre-existing or ‘secondary’ assets.  If we borrow $100,000 to buy an established house, this investment in isolation does not make it into the GDP figures.  Mind you, it’s likely that some of the new debt will flow through to GDP – the person who sells the property spends some of their winnings on consumption, those good souls who earn a clip off the ticket can afford to pay themselves, and the banks can take their interest margin etc.  The point is the increase in debt will be greater than the GDP effect.

Given our housing habit has been the key driver of our demand for foreign debt, we can surmise that the ‘leak’ has been house prices. Access to debt has enabled our market to bid up established house prices ahead of the growth in our income.  GDP lags growth in debt – and in house prices.

Here we get to the sting in the tail.

Our debt may be swapped back into Aussie dollars (a very good thing – it’s analogous to borrowing in your own currency), but it is still a fixed term liability. Repay, rollover or default – those are our options.

If we choose to repay – that is, join the global trend to deleveraging – then, there this will drag on GDP.  If consumers increase their savings rate, either the government steps into the breach, or GDP must retrench. This is the problem currently facing the US economy. At least we have the luxury of a trade surplus.

Rolling over the debt until wage inflation catches up looks mighty appealing in this context.  Still there is that refinancing hump that is facing our banks in 2011/12.  Let’s hope that China is still the bull at the mine-gate come maturity.

We’ll return to the theme later – for the moment let’s just note that while we might have expected interest to disposable income to have risen with the increases in official interest rates, debt to disposable income was also up.

]]> http://www.datadiary.com.au/2010/06/18/australian-household-finances-disposable-income-just-cant-keep-up/feed/ 3 http://www.datadiary.com.au/2010/04/27/how-much-above-trend-are-australian-house-prices/ http://www.datadiary.com.au/2010/04/27/how-much-above-trend-are-australian-house-prices/#comments Tue, 27 Apr 2010 03:37:01 +0000 Rohan Clarke http://www.datadiary.com.au/?p=2136 The ‘Australian housing bubble’ chorus has grown in voice recently – the IMF and the RBA, hedge funds and ‘traditional’ funds managers have all been questioning the recent price action in Australian housing.  With the Fairfax stable running a week long feature on the housing market in their various papers – the sentiment gauge is pressing deep into red.

So assuming that Australian housing prices are over-extended, what then is the underlying trend?  It is this ‘sustainable’ growth rate that we might expect house prices to revert to – whether via a long period of relative price stagnation or a shorter, sharper market correction.  But first a recap of the story so far…

Australian house prices have grown faster than incomes and consumer price inflation

Let’s start with a chart of the ABS eight cities House Price Index:

Notably, this broad index has not experienced a single negative number over the last quarter century – not even in the post-87 liquidity surfeit and subsequent squeeze.  The introduction of the first home buyers grant (to compensate for the GST) in June 2000 stands out as a step change in prices.  And from there price growth accelerated through to the present day.

By this measure, house prices have pushed well ahead of GDP and CPI growth.  Across the entire period, the house price index grew by ~4.6%p.a, versus GDP and CPI of around 3.2%p.a.  Additionally, real house prices ran well ahead of growth in real incomes, real construction costs and real rents (see here).  Remarkable.

What has driven the house price outperformance?

We have noted before that the rise in house prices has been accompanied by a commensurate rise in debt levels – with household debt to GDP rising from 30% in the early 90′s to nigh on 100% currently (see here) and debt to disposable income sprinting from ~40% to ~160% across the same period:

But there is more to it than that.  The oft-nominated culprit is that Australia’s population growth has outstripped supply of new housing over the last decade:

Additionally, there has been a long running trend towards less people living in a single dwelling – though this fashion seems to have met resistance recently:

What is the outlook for supply and demand?

Turning to the nearer term outlook for the housing sector and it’s not just housing density that looks like it has turned a corner – if we run through the various factors that drive demand and supply in the housing market, it’s tempting to conclude that we are in sight of an inflection point for house prices:

Interest rates – the RBA was first central bank to go to the brakes as the recovery surfaced and has made it clear that it is concerned about the impact of over zealous house price inflation.  They will keep raising rates until the rise in housing prices has been stemmed.

Population growth – current population growth rates are around 450,000 per annum which, assuming the current trend of 2.73 people per dwelling, means we need ~165,000 new dwellings per annum. Notwithstanding the recent uplift, we are still short of this mark (see here).  Notably however, 300,000 of the annual growth is the result of net migration.  This is subject to political indulgence which, with ‘housing affordability’ a pressing issue, is on the wane.  By way of example, a cut to 250,000 in the annual intake would reduce base line demand to ~145,000 dwellings.

First Home Buyers - ‘temporary’ assistance introduced a decade ago has become a feature of the Australian housing landscape (see article here).  But interestingly, even this is now being questioned – with the grant’s role in pushing prices up being examined in the recently announced governmental review.

Foreign buyers – the Commonwealth government now wishes it did not change the foreign ownership laws last year.  Rumours of Chinese buyers storming the inner suburbs abound.  Certainly the decline in the number of housing loans (since the cessation of the FHOG in December) is inconsistent with the frantic auction activity (see here). Expect the Government to close the door on foreign buyers again.

Credit availability – Australia’s big four enjoyed a bonanza of home leading through the recent recovery.  But as home prices have pushed higher, they have ratcheted back on the maximum LVR that they are willing to lend (see here).

Availability of land - it’s a building industry cliche that it is government regulation that has driven up house prices because of red tape in getting new houses built.  This is fluff.  The major home builders manage the supply of new houses coming out of their landholdings to optimise demand and price – none of them (to my knowledge) is short of supply.

It’s deep and patient capital that funds the migration of land through the re-zoning process – and again, the environment has been friendly in this regard for a very long time.  It’s telling that the government has included the management of zoned land-banks in its housing affordability review – their are serious regulatory risks swirling around the earnings of new home builders right now.

Conclusion

Reviewing the variables discussed above suggests that the near term outlook for house prices is poor.

So to get back to our original question – what is the long term sustainable trend?  I’ve drawn two lines on the chart above – one at 3.5% per annum representing the long run growth in GDP – which logically is the ultimate arbiter of what a country can afford.  House prices are currently ~30% above this level.  The second line illustrates what 4% per annum looks like – maybe house prices can outpace GDP by 0.5% based on our peculiar demand ad supply dynamics.  House prices are currently 15% above this level.

Finally, how do we get back to trend?

Prices correct - Australian households have never been so leveraged.  This means that we are more exposed than ever to external shocks that could lead to the dreaded debt deflation spiral (at worst) or hobble growth in the domestic economy for a very long time (not quite as bad).  The result is that house prices fall.

Prices flatline – History would suggest that a major correction in prices is unlikely – if we follow the early 90′s model, home prices could flatline for the next 5 to 10 years as the economy catches up.

Perhaps more likely in this context, particularly given a global propensity to money printing, is that inflation takes hold.  Inflation is a flat tax on all and, politically speaking, is the least painful way to spread the burden of debt reduction across the economy.  Ultimately, wage and asset inflation overcome debt levels.

Either which way – these scenario’s suggest a more painful corrective path for the Australian economy as house prices return to their long term trend growth rate.

Housing has all the feel of a speculative surge -

• with record volumes and clearance rates – for commentary brought to you by your friendly mortgage broker see here
• and the RBA getting progressively more uncomfortable – the governor threatening to takeaway the punch bowl on breakfast television here
• and hedge funds starting to add their own colour – FX Concepts expecting our luck to run out in 2010 here.

We’ll find out soon enough how long the jetpack fuel lasts – in the meantime, any bets on a 100% household debt to GDP by our Winter solstice?

Still with our housing market continuing to power on - latest gossip is that Australian housing has become the carry trade of choice for Chinese real estate speculation – the question remains how long can we continue to turn up the leverage?

The chart that keeps nagging at me is this one – household debt to GDP:

To put this in some context – from an IMF paper by Japelli, Pagano and Maggio in October 2008 (here) – the US was at 85% and the UK at 75% back then.  And because we can – a heat map of Europe’s household debt to GDP in 2008 (apologies for RSS readers – don’t know how to make the map portable – click back to the website for a peek).

Red > 70%, Orange 50% – 70%, Yellow 30% – 50%, Dark Blue 10% – 30%, Light Blue < 10% and Grey n/a

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While in Asia – the emerging world has a great deal of slack in the debt department…  
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Now the inescapable conclusion from this is that Australia’s debt to GDP ratio is high – we are glowing bright red. Perhaps it’s sustainable – our disposable incomes will rise to compensate for the elevated debt levels – but the downside risks to the economy from this position are pretty fearsome.  External shocks, such as rapidly rising global interest rates, could quickly derail the apple cart.

Still the RBA is sanguine for the moment – pointing to rising disposable incomes: