Property prices have increased, the construction industry is at capacity, and the average Australian household size has fallen throughout the course of the COVID pandemic. But will these trends continue into the foreseeable future?
This was the big question addressed by Reserve Bank of Australia Assistant Governor (Economic) Luci Ellis during a keynote speech in Sydney last week.
Speaking to the Urban Development Institute of Australia last Wednesday, Ms Ellis discussed the underlying drivers of housing demand, their likely persistence, and the ability of the construction industry to meet that demand.
The average Australian household size decreased
Noting it was no surprise the pandemic had changed how Australians think about their homes, Ms Ellis said lockdowns and self-isolation prompted many to seek more space and “perhaps a garden”.
“There is nothing quite like being confined to your home for months on end to make you appreciate having a home that meets your needs or rankle at one that does not,” she reflected.
As a result, the desire for more space changed many people’s living arrangements, with the size of the average Australian household decreasing.
Smaller households spurred rental demand
The decline in household size increased demand for homes, Ms Ellis continued, which then had a flow-on effect to the rental market, resulting in a low vacancy rate.
This was despite the fact Australian population growth was in decline.
“Roughly speaking, the decline in population growth meant that there were up to 200,000 households that didn’t arrive in Australia over the past two years, who would have done so if population growth had stayed where it was before the pandemic,” she said.
“But the decline in the average size of households that were already here broadly offset this.”
Less premium on place
While the average household size decreased, the desire for extra space increased.
“Homes with some outdoor space became even more attractive relative to small apartments,” Ms Ellis reflected.
“This shift in preferences was evident both in rental and purchase markets. Rents and prices of apartments weakened relative to those for detached houses during the early phase of the pandemic, especially in the largest cities. Renovation activity also increased.”
However, the desire for more space was one thing and the ability to attain it was another, Ms Ellis continued.
Other shifts seen in the pandemic, including work-from-home, helped accommodate this need.
Ms Ellis explained the shift to working from home reduced the “premium on place”, allowing people to relocate further from the city to acquire the space they wanted at a cheaper price.
As a result, the premium paid on properties close to city locations lessened.
“Housing prices increased over the two years to April this year across almost all neighbourhoods in the major cities; however, in general, price increases were stronger in the outer suburbs than in inner-urban regions,” she said.
“The premium for being close to the centre remains, but it is much smaller now and is closer to the premium for being in a middle-ring suburb.”
Some effects will wane
Looking to the future, Ms Ellis noted it was important to remember only some of the effects of the pandemic would last.
“The desire for more space further from the office might wane over time as the memories of lockdown start to fade,” she explained.
“Not everyone who sought a ‘tree change’ in the regions will find that to be the right choice in the long term.
“More importantly, many of the shifts of population between locations were less a change in people’s decisions than a simple interruption of the normal flows.”
The migrant effect
Ms Ellis noted the usual pattern of net population flow saw migrants from overseas more likely to arrive in Sydney and Melbourne.
“…and this net flow into those cities more than offsets the usual net outflow of residents to other parts of Australia, especially Queensland.”
The pandemic interrupted this usual flow, Ms Ellis said, as overseas migration stalled, fewer people moved to the city, and others shifted to regional areas.
This resulted in both regional house prices and rents rising.
“With the inflow all but stopped and outflows continuing, population growth in Australia’s largest cities over the last two years was much weaker than in the rest of the country,” Ms Ellis said.
“These shifts are now unwinding, with internal migration returning to a more typical pattern and overseas migration slowly starting to pick up.”
Housing supply
With population growth likely to return to a pre-pandemic level by 2024, Ms Ellis said the next question was around housing supply, which she noted had been “running ahead of what would normally be thought of as trends in demand” for some years.
Spurred on by low interest rates and government subsides like HomeBuilder, the construction of new homes is expected to remain sold for the next couple of years, with housing stock continuing to expand as a result.
“We expect it will expand at rates similar to the first decade of this century, but not as much as during the boom in apartment building in the second half of the 2010s,” Ms Ellis said.
“This is likely to still be enough to keep the housing stock growing faster than the population.”
Ms Ellis noted it was “difficult to disentangle” how much the construction of new homes had been spurred on by government subsidies such as HomeBuilder.
However, even now that eligibility for such schemes had closed, the categories of building approvals remained higher than immediately prior to the pandemic.
“This suggests that the extra demand induced by the subsidies wasn’t entirely pulled forward from this year and next year, which would have left a ‘hole’ in activity,” she said.
“Rather, the combined effect of low interest rates and preference shifts is continuing to support demand.
“Over time, though, that additional surge in building approvals from HomeBuilder and other subsidies will have been worked through and will no longer be a support for the level of dwelling construction.”
That said, it may be a while yet, with Ms Ellis noting there was a delay due to the construction industry being at capacity.
The construction industry is at capacity
Ms Ellis noted while there had been a surge in demand and housing approvals, the data on housing completions had not “picked up in the same way”.
“The large number of detached approvals have mostly started construction, but there is now an unusually large pipeline of detached homes that are yet to be completed,” she explained.
“All the signs point to the fact that the residential construction industry is at capacity and cannot work down this pipeline any faster.”
The reasons for these delays include supply chain issues, the availability of materials, and a shortage of labour.
“Around one fifth of firms are reporting that the availability of materials is a significant constraint on their output,” Ms Ellis said.
“This is far higher than reported over the past three decades.”
However, looking to the future, Ms Ellis said in the medium to long-term, this issue will resolve.
She noted over time construction demand related to HomeBuilder and other temporary support measures would wane, while increased interest rates would also result in a slow down.
Meanwhile, she said the easing of prices for existing properties in some cities would result in less demand for new homes.
“The current pipeline will sustain activity for quite a while, but the backlogs and strained capacity will ultimately work themselves out,” she said.
“Exactly when that will happen is hard to know. But when it does, we can expect some of the current rate of cost escalation and squeeze on margins to ease.”
How will the whole system adjust?
Concluding her address, Ms Ellis said the housing landscape was “more or less” past the acute pandemic phase of the health crisis and into the endemic phase and there were lessons to be learned from the recent experience.
The first was that the importance of home and a sense of place had been emphasised over the past two years, and this could carry into the medium term.
The second lesson was that policy, such as subsidies, mattered, especially in the short term.
The third was that everything has a limit.
“We’ve seen this in the ability of global supply chains to supply materials, and in the capacity of the construction industry to deliver a volume of projects,” she said.
“When capacity limits are reached, prices can shift very quickly, at least until people find ways to expand those limits.”
Finally, she said it was important to appreciate the medium-term may not resemble the short-term.
“Whether it is a shift between flatmates and partners, renting and owning, or even short-term holiday rentals versus long-term rentals, the housing system does not stand still in the face of a shock,” she stated.
“It is tempting to focus on a single outcome, such as prices of established homes in particular areas. A better question to ask – if a more difficult one to answer – is how the whole system will adjust?”
