Home buyers should not wait until late 2010

OPINION:  This week the Reserve Bank reviews its official cash rate and there is a strong chance that the bank will continue to emphasise its determination to keep the cash rate low until the middle of next year, writes Tony Alexander this week.

At this stage there is little reason for the bank to be worried about inflation rising over the medium term given that there is spare capacity in most sectors of the economy (unused people, buildings, machinery etc) and the economy's recovery from recession is proving very mild.

What we mean by mild is that although, for instance, retail spending is growing it is doing so only at about a 2.5 per cent annual rate.

And although export commodity prices have jumped over 30 per cent since early this year there is no evidence that total export receipts are growing.

And although businesses are saying they intend investing, there is no evidence that business investment is in fact growing.

We can get a feel for what is occupying the minds of businesspeople when we look at the debt growth numbers.

A year ago business sector debt (excluding agriculture) was ahead 10.2 per cent from a year before. Now the growth rate is -2.8per cent. Businesses are strongly focused on reducing debt levels – and it is partly because this occupies the minds of businesses that the bank wants to keep floating rate funding costs low as long as possible.

The bank wants businesses to use the cashflow improvement to get debt levels down.

Households are in contrast still increasing their debt – but not by much and this is important for those who may think the recovery in house prices is speculative and the bank may need to raise rates to fight it.

House prices have gained on average 9.4 per cent since January because construction is at its lowest level since the 1960s, population growth is above average, and we started the global crisis with a slight under-supply of houses.

It is basic population level and growth versus house supply level and growth that have caused house prices to rise and not a borrowing surge.

Household debt in October was only 2.6 per cent up from a year ago. People undoubtedly like the lowest floating mortgage rates in four decades, but they are not responding to them by boosting debt levels.

That means there is no role here for interest rates to play in suppressing house price gains.

Not that house price gains are likely to continue at so strong a pace, but gains are still likely.

We expect price gains of between 5 per cent and 10 per cent over 2010 and 2011 underpinned by above-average net migration inflows until late 2010.

The upswing in house construction will be strong – but reaching an above-average level of annual construction could be very difficult.

That is because the demise of the finance company sector in New Zealand removed a traditional source of finance for new subdivisions. Second, there is a rapidly worsening shortage of houses in Australia, which is spurring increased construction that will prove very attractive not only to New Zealand tradespeople out of work now, but even those in work interested in earning maybe 50 per cent more.

And if these tradespeople do not leave our shores in increasing numbers from mid-2010 to build Australian houses, they will be going to work in the newly booming minerals sector.

Last year, before things really turned to custard in September, we forecast New Zealand house prices would fall maybe 10 per cent to 15 per cent (they fell at worst 11 per cent) and that buyers seeking to make a canny purchase should do so before the middle of this year. We also suggested anyone wanting to get a place built should not be tardy.

We retain the same piece of advice heading into 2010.Tony Alexander is chief economist of the Bank of New Zealand (BNZ).

» Tony Alexander is the chief economist for the Bank of New Zealand.

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