Peter Lyons: Don't fear a housing crash - damage already been done

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Opinion

Here's a big prediction. The Auckland housing market is unlikely to experience a dramatic crash or correction any time soon.

It may stagnate at some stage for a long time. Median prices may even dip but significant sustained price falls are unlikely. The reason is that it is too big to fail. A housing crash would be calamitous for our economy and society. The economic tools are available to prevent such a scenario regardless of the cost.

The New Year has started with renewed jitters about the state of the Chinese economy. Commodity prices - particularly oil - have fallen. Global share markets have continued their dance macabre to the alternate beats of pessimism and optimism. Some commentators have raised the spectre of another global financial crisis which further spooks the financial markets. The truth is that no one really knows and much of what is written is noise.

But one thing is certain. Governments have learned a lesson from the global financial crisis of 2007/8. They have learned how to avoid a repeat of the Great Depression of the 1930s. The crucial lesson is that it is preferable to flood an economy with easy credit rather that suffer the consequences of a systemic failure of a banking system. This approach is the lesser of two evils, but it is still an evil.

So the Chinese government, the American government, the British government and governments in much of the rest of the world have realised they possess an alchemy that will prevent a major depression. If the worst comes to the worst their central banks can pump their economies full of new money in the form of easy credit. If the private sector proves unwilling to borrow and spend then a central government could always step in and use cheap borrowing to boost its own spending to keep the economy afloat.

Going back to the Auckland housing market it is worth exploring a worst case scenario. A sudden spike in unemployment or reversal in migration could lead to a fall in house prices.

A significant fall in house prices would ring major alarm bells at the Reserve bank. It could lead to negative equity for some mortgage holders. It would likely lead to falls in consumer spending as consumer comfidence falls. This would cause the Reserve bank to fret about deflation given that it is required to keep inflation between 1 to 3 per cent.

It could also lead to bad debts for the banks. If mortgage defaults became widespread this could lead to questioning of the solvency of the banking system. There is no way the government or Reserve Bank would allow such a scenario to play out.

A banking collapse would be catastrophic for the wider economy. The solution would be to provide liquidity to any major bank in distress in the form of easily created credit. As a sovereign nation with its own currency the Reserve Bank and government has this option. They can create money from nothing. This is the lesser of two evils.

So the rampant Auckland housing market has this likely guarantee underpinning it in a worst case scenario. It is too big to fail. But as many Aucklanders sit in their hyper expensive houses they may need to contemplate a basic economic concept called opportunity cost. This is the option forgone.

Many of their children now live and work overseas because they cannot earn a decent income and afford to own a house here. Many of their children who are able to buy are saddled with mortgages way out of kilter with their incomes by historical standards.

Some of their children are likely to be life time renters. Renters miss out on any benefits of the rampant housing inflation underpinned by the implicit guarantee described above. Younger kiwis with large mortgages are indentured to the banks. Much of their working life income will accrue to overseas' shareholders. Those younger people fortunate enough to gain inheritances or endowments from their parents are very fortunate indeed. They are the "haves' in our deregulated free market system that hugely favours those born into the right circumstances.

Some Aucklanders living in very expensive houses are struggling to pay the bills. Despite rampant housing inflation their incomes have not kept pace with other necessities such as rates, insurance and electricity. They don't need to fear a housing crash. The damage has already been done.

Peter Lyons teaches economics at Saint Peters college in Epsom and has written several economics texts.

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