Apartment prices to fall up to 15 per cent, economist warns

Apartment prices are headed for a major shakeout that will almost certainly create contagion into the broader property market, says Stephen Walters, one of Australia’s most experienced economists. 

Prices of apartments will fall 10 per cent to 15 per cent over the next one to two years, he predicts, squeezing buy-to-let investors who have borrowed to negative gear and are heavily relying on capital gains.

“I think it’s going to get ugly, particularly in some parts of the market and for some lower-income cohorts who have borrowed,” Mr Walters said in an interview on Tuesday.

The warning echoes a sharp escalation in concern from the Reserve Bank of Australia over a potential oversupply of apartments. For the third time in four days the central bank noted on Tuesday that a “considerable supply” of units would arrive over the next few years, adding to the need to closely watch the property market.

Officials at the bank on Friday warned that risks were coming to the “fore”, while Philip Lowe cautioned in his first speech as governor on Tuesday that growth in rents was “very low and there is a big increase in housing supply still to come”.

Falling rents factor

Mr Walters, a former chief economist for JPMorgan and now working for the Australian Institute of Company Directors, said falling rents are a “pretty strong price signal” the market is starting to adjust downwards.

“Rents are already off and given that a large part of the market is investor focused, that’s got to affect your price expectations and purchasing prices,” he said.

The nation’s current multi-year apartment construction boom – and its potential bust – is rapidly emerging as a key policy challenge given it was effectively spurred two years ago by the Reserve Bank to generate economic growth that would offset the end of the resources boom.

By slashing borrowing costs to a record low, the Reserve Bank encouraged the boom but is now starting to fret that too many apartments may be hitting the market.

Mr Walters said while he supports the rate cuts to date, this year’s two reductions have added fire to an already hot market.

“They knew this would happen. They engineered this part of the boom. When interest rates go down, housing will pop.

“And they’ve had to keep cutting through gritted teeth because they’re making the adjustment and shakeout in housing and balance sheets that much worse.”

Broader collapse

The Reserve Bank indicated on Friday in its biannual Financial Stability Review that any collapse in the apartment market would almost certainly flow to the broader market – where the so-called “wealth effect” of large price gains over the past two years across major east coast capitals have been a major driver of consumer spending and sentiment.

“The bank’s been on the record saying you can’t have a meltdown in one part of the market alone,” Mr Walters said. 

“If you get a real shakeout in inner Brisbane and Melbourne, where rents are already falling, eventually that will have to be reflected in not just the apartment market but in the broader market.”

Even though the Reserve Bank doesn’t regard a potential collapse in apartment prices as “systemic risk” to the financial system, banks will be impacted as they have let to both buyers and developers.

“I’m not arguing they shouldn’t have done it, but the coming shakeout in housing is becoming a larger blip on the radar screen.”

This story was first published by the AFR