What would happen if the house prices of Auckland, Queenstown, and other centres of very high debt went into substantial and long term decline?
We are seeing big hints of an answer.
The residential property game in New Zealand remains centred on Auckland: as Auckland values skyrocketed, they took that equity and reinvested in the regions. That may tempt less charitable types shouting “schadenfreude to the JAFFAS”. Just leave that for the truly shonky landlords.
So what if there’s no future equity gains to keep those further fresh loans for further properties available? And what happens when the idea that rents will just keep going up disappears as well?
What matters in the broad sense is that the Reserve Bank has tested whether our banks would get into real trouble if this scenario really played out.
The Reserve Bank did go through some really serious scenarios. In the first, a downturn in the Chinese economy spreads through trade channels to other emerging markets, with flow-on effects to other parts of the global economy including Europe and Japan. A collapse in demand for commodity exports and negative investor sentiment towards the Australian and New Zealand economies triggers domestic recessions and a six month closure of offshore funding markets for banks.
Then, New Zealand’s unemployment rate rises quickly to peak at 11%, house prices fall 35%, and the Fonterra dairy payout remains below $5/kgMS for three years.
The scenario assumes that macroeconomic conditions begin to improve by the fourth year, though property prices do not recover. Banks receive a two notch credit rating downgrade, and face elevated costs in both wholesale and retail deposit markets.
The second scenario put a big operational risk or banking industry-wide misconduct event on top of all that hot mess from the first scenario.
Then the Reserve Bank tested how the banks would survive it all.
Apparently they would, but it’s New Zealand society that needs the stress test.
Neighboring signs are not good. The ANZ parent company in Australia has said that the pace of decline in house prices is quite a bit larger than expected, and likely to last longer than forecast. You might want to read that sentence twice.
In New Zealand, the centres of Wellington, Christchurch, Auckland and Queenstown are in decline.
This decline has been noticeable since the last quarter of 2017.
Now, I’m no Cassandra presaging the end of New Zealand real estate capitalism as we know it. Will the New Zealand housing downturn in key centres turn into an inferno that destroys the New Zealand economy? Or can it just gently smoulder at the edges and burn off just the most risky borrowers?
In a policy sense New Zealand desperately needs the second outcome. A big house price calamity that caused mortgage defaults and made consumers shut their wallets would send waves of unemployment through New Zealand. A slow fade, such as several further years of house prices falling slightly, could be pretty useful. The mirage of the perpetual property acquisition by the few would fade. Household debt levels would on average start to level. And in time it might narrow the gap between income earned and house prices to go for, into a bit less cruelly unattainable.
With so little increase in overall New Zealand productivity for so long, the only reliable way most people have got ahead in this country is getting loans on housing and watching the values go up. That whole model is now at risk.
Most will remember times in New Zealand history in which property values have slumped. 2007-8, 1997, 1987, 1974-77, and 1967-69 spring to mind, and the Reserve Bank is across those as well.
In New Zealand’s highly indebted private loan state, property recessions mean that a whole bunch more people find themselves “under water” – where the mortgage is higher than the value of the property. That means the banks start checking those files out and having a chat about whether you can still afford it or whether it’s better that you hand your keys back. That ends in stress, divorce, a smashed credit rating, damaged families, and damaged lives. This particular property decline is slow, and it looks like it’s here for a few years.
We’re not in any crisis yet. Not near either. What matters in the specific sense, is this sustained decline in property value takes with it the hope of mobility and the wealth of most New Zealanders.