This is a curious exploration of Australian housing. Housing here is a hotly-discussed topic, with our nation becoming pricing experts. This aims to look at some of the phenomena present, whilst not falling into doom-and-gloom, or the “there’s going to be a crash” cohort who are narrative-fragile themselves. There are housing challenges in Australia, though it’s not as simple as labelling them and going with the first interventionist idea to solve it. Aussies need to live in houses, and require stability for themselves which is what houses and otherwise are meant to provide. It is not a binary problem, or solution, for dealing with uncertainty in this market.

Let’s briefly look at the GFC. But not for too long.

In America, an individual with a mortgage has the freedom to walk out of their house and “leave the keys”, putting the property back on the bank, and the now-ex-owner only losing what they had paid to-date on their mortgage. This is what banks found their borrowers doing during the global financial crisis (GFC).

In Australia, if you can’t pay, you’re still on the hook until you can pay (called full recourse loans) - the bank can sell off other things you own, and pursues you until you pay off your full mortgage.

Really, America did not have “leave the keys” across-the-board in every state. Some states had more recourse, some were more non-recourse. There is suggestion that the full-recourse (no “leave the keys”) loans had lower default rates, which are attributed to less “strategic defaults” (to wipe buyers hands clean and move on). This is just for illustrative purposes, as we do not need to analyse studies and projections to understand this as it makes sense: more skin in the game for borrowers, less defaults. For instance; this empirical data can be spun into a narrative that indicates that Australia is safer, because we’re closer to across-the-board full-recourse. Though, this could send someone into a sucker trap since defaults are a stronger signal when there is a recourse loan environment, therefore once they start, it could be too late to prepare oneself for this (too much pressure on home owners, hidden due to full-recourse, causing a full-tilt which was not visible until too late).

Australia, in some ways, is protected by full recourse by tempering reckless household purchasing of housing. Though since it’s coupled with investment policies (e.g. negative gearing, CGT), this can be fragilising as we start to need our housing prices, rates, etc, to follow a certain trend.

To public knowledge, there are no multiple-derivative securitised debt markets (like in the GFC) attached to mortgage packages in Australia, and the major banks here reportedly use “plain vanilla” RMBS’ (regional mortgage backed securities) for risk management – similar to the original concept of MBS’ before they mutated into speculative debt-squared in the GFC. In fact, if banks were speculating in the same layers-on-layers way that banks in the GFC were, then it would be a clear “run to the hills” moment. The big banks (~75% of the current mortgage market in Australia) enjoy comfortable competition and regulated benefits – they do not need to reduce their risk in this manner.

To conclude: we cannot rely on “we’re bound to our houses – and Aussies will rather go hungry than pay their repayments” as a sound model for risk management in the Australian housing system. If there are risks like speculation accruing, or other external risks, then being full recourse can put our skin on the line.

Next, we’ll look at what the crisis is from an individuals perspective, to keep the discussion away from “supply and demand”, “rates”, and other talking points.

There is no crisis if individuals can move around with security. We cannot securely rent without secure landlords. Landlords cannot be secure with fluctuating costs of money and living themselves in a loose housing environment. Everyone is on a “secure spectrum”.

There is a constant cost-benefit due to the high cost of securing a property. It’s possible for some, very difficult for others, and a large chunk of the population are losing options. This changes for individuals under conditions like remote work or freedom to move anywhere (location arbitrage), though some individuals are so locked into their environment so their “security” is lower due to less freedoms, and some just want to live in a place since it’s their place. Security (or fragility) is directly related to the amount of options you have. Or: with less options, you have less flexibility, and exposure to “shocks” when things change.

Could we say this is a “security crisis”, or “option crisis”? As pricing rises, optionality in the immediate area is lowered dramatically. Individuals then look elsewhere cheaper, raising prices in that area. This “spillover” then reduces the optionality for the locals growing up in these areas, causing this to repeat for them.

Someone please work out how to do house swaps. Someone with an “equal” house to yours, who lives closer to where you want to be and vice versa (they have benefit to your current place), would be helpful. If this were the case, we’d be able to hop around, skipping the selling, settlement, finding, conveyancing, checking, etc. This is not the best idea – a better idea might be to be able to flexibly and securely rent.

Just yesterday as I am writing these lines, my friend asked if I could be a reference to her next rental application. They have only a couple of months prior settled into a lovely home near Melbourne. Settled into their jobs, lifestyle, daily routines. From here, stability, family, community, improving one’s position, yada yada. Now they are needing to find a new place, as their landlord is now going through a divorce and needs the place for himself.

Say instead that the housing stock had a portion of “government ownership” (social housing, etc) in the housing market. This “community-driven” participant would change the dynamic dramatically, for both my friend, and the unforseen man going through a divorce. My friend could commit to social housing for a secure future renting, with optionality to move whenever else in the future, and the government making predictable revenue on the property. The “man of divorce” would also be free to look at this option first – maybe a sabbatical in Cairns, or Esperance, instead of his property as the best option for himself. In today’s system, it is completely easy and understandable for someone in this situation would evict a productive tenant, breaking the lease, for themselves – which is unfortunate.

To propose, instead, that housing be completely de-commodified, is far in the other direction of the system that we currently have in-place and is incredibly reckless. This would cause more hurt than good. Although some may see property investors negatively and “in the way”, I think this is poor reasoning – the system is setup to encourage ownership and reward it, and they are taking risks (some more than others – I do despise rent extractors, and there are quite a few – it’s important to view them as a separate group within the group of property investors). We cannot solve the problem by wishing for social change in the way we value assets, as who is not going to protect their assets and accumulated income, and lower tax. There’s no point to wish for this angle.

It is important in the context of Australia to briefly note negative gearing, an incredibly boring-yet-fundamental policy for housing. This is a policy which allows income tax to be offset based on investment property costs (to put it simply). Politically this is sensitive to mention making adjustments to (until a disadvantaged minority moves towards being a majority - making it “less sensitive”), though I think it’s important to note that the only reason that negative gearing is effective is itself due to a high tax rate, and progressive tax system which Australia is embedded in. To use an extreme: if income tax was 0% (closer to Singapore, Dubai), this would be the equivalent of removing negative gearing, since it would be much less useful as a tax-hack when you pay less tax. So, lowering the income tax brackets would contribute to reducing negative gearing effectiveness as they feed off of each-other. This would also increase optionality for the population (more money, more options), and provides options for owners receiving these tax cuts: pay off their mortgage faster, and/or invest in more property. I believe it’s worth repeating: lowering progressive tax rates reduces negative gearing’s effect.

If one speaks on the concept of government owning more housing, it can be easily spun as “you are losing control and freedom to own private property”. Somehow, there is no argument about the loss of freedom one could be seen in having when having low housing security, or locking up large amounts of capital to get that desired security, committing to long-term variable-rate debt, refinancing schemes, and spending high percentage of income servicing these loans.

Indeed, as mentioned briefly above, governments would have different incentives on letting rentals. Private investors are going for gold: growth, tax advantage, rising rents. Governments: economic productivity from tenant security, moderate appreciation, long-term planning.

When travelling abroad, it became visibly apparent the different options that exist rather than locking up a large chunk of money into a house in exchange for security.

In other countries their system for housing is seen as quite different. Many different systems exist, and it’s eye-opening that your hundred thousand dollar deposit can do a lot of different things overseas. You could move to, say, Ireland. Get a government rental. Explore, drink guinness. Get ignored when mentioning your ancestry. Or, lock two years up in Bali, get a low-tax nomad visa, a painful accidental tan, start a digital business, then come back home once it fails miserably. That sort of thing. The point is that there is a lot of optionality with your deposit – a hundred thousand dollars is a lot of money on its own, and once ready for security, the status-quo is to load up on housing debt to be secure, at the expense of optionality.

To return to “losing freedom”, one can wipe away this fear of government intervention when realising that we don’t need rent-control, or big-government to solve this, and can improve it whilst still operating in a distributed manner. We need to look at options which do not use debt to increase accessibility. We need to laser-focus on reducing moral hazard (reduce negative gearing effectiveness via tax cuts so it’s more politically sensitive is one example), move to longer-term fixed rates to reduce landlord and household risk, incentivise real ownership of housing, improve rental strength and security, so that money doesn’t need to be locked up in housing (creating optionality for individuals via renting instead of buying, in business and other important risk-taking), and let the system naturally move wealth off of housing balance sheets and into productive ventures.

Next we’ll briefly touch on asset morality and ethics.

Something I long-recall from Carl Menger’s “Principles of Economics”, settles into my mind as the following:

Moral judgement is devoid in economics (in Menger’s scope of work), though mentions certain structures can lend themselves more towards systemic risk. If water was a monopoly or oligopoly, and unregulated, moral concerns arise and protections are needed. Healthy consistent water profits would come, but at a cost to the rest of the economy’s ability to operate: building private water wells, water brokers, water-backed securities.

Briefly, let’s blend few topics together to get to a larger point. Morality of ownership, meritocratic value systems, and subjective value theory.

Societally, meritocracy exists, due to win-or-take-all effects. With great interest we listen to what the wealth is doing and saying. Governments listen. It’s easier to deal with one than many. If we in isolation used wealth as a proxy for individual value, we’d find ourselves listening to the bankers and risky speculators of the GFC or other boom-and-busts; as we have done, did do, and will keep doing.

Ethics of ownership: if there is even a slight hazard to speculating on an asset which another individual lives in, whilst it operating as their economic and family base, both parties can find themselves in a pickle jar during a shift. If one is generating wealth with misadjusted risk, and owning a “need” for another person (remember: water), there is something there to investigate systemically. In normal circumstances (the 80-90%), ownership is a legal contract, beneficial for economic productivity, etc. In edge cases (like our water-monopoly example), it’s clear that ownership unquestionably moves into the moral and ethical landscsape. And when we have a need (housing, water, electricity) which becomes strategic wealth building or tax strategy, this investment becomes more “for the sake of” than purposeful capital allocation.

Value is subjective, cutting both ways – a “thing” (house, water) could be worth a lot in different scenarios, but if there is a subjective dimension in the pricing equation, it can become worth a lot less in the future. Housing operates as expected during normal circumstances, though as described above, the recourse locks-in-place would make the environment harsh if there was a big shock in housing causing prices to be valued as lower. This could lead to long, drawn-out pain periods.

Put differently: the combination of meritocracy providing influence to policy and investor action, potential unethical ownership (if speculative at scale), and subjective valuations being involved, are all relevant when looking at Australian housing deeper. I do not have enough interest to dig deeper than these lines just now, as it is on the edge of pontification, though I think they are important angles to look at when reviewing policy or participating in the market. Focus on real value, ethical conduct (is this causing harm?), and the source or incentive of property policy or levering.

Getting a credit card increases your access and optionality. Though, it also increases your bet on the future (to be able to pay it back). Credit cards are wonderful tools, though the stake on the future becomes the risk – if you can’t pay it back, you are going to rack up large fees and strangle your future options. Another risk from credit cards is the shadow-spend. The influence of having available credit, may indeed make your purchasing more reckless or thoughtless than with friction – a hidden tax. This effect cannot be ignored with housing in Australia, as the numbers are becoming so large, and the friction and leverage is being lowered continuously.

There are a lot of schemes being used to try to affect change on Australian housing. The new 5% deposit scheme is a tool which puts governments skin into the property, increasing new market participants leverage to 20:1, LVR’s (loan-value-ratio) as high as 95% (practically; as government is guaranteeing the 15%, not paying it). This is not nation-wide, only available leverage for first-home-buyers.

Let’s attribute the “property ladder”, to a real ladder, with a sizeable and growing gap from the ground. The Australian government is legislating step-ladders to help newcomers hop up onto the ladder to start climbing, and the ladder is lengthening to become longer to finish your climb to the top (paying off your mortgage). If you fall off, it’s going to really hurt since once you’re on, you must either reach the top, or jump to another ladder or location.

Other brief schemes of note include increasing DTI (debt-to-income) ratios by removing HECS student dent in debt repayability modelling, the existing negative gearing system, and capital gains advantages. There is also a look at 40-year loans now.

The question we’ll see is: can we have all of this, hyper-profitable banks with high valuations, and not have a crisis?

Let’s take stock.

What helps, is this observation is a lot of “if’s”, or “can we?”’s.

As I’m a standard citizen, I cannot pry into the depth of these systems to come up with a case for whether or not something or other is going to occur. I cannot query every mortgageholder, or financial banking instruments. Even when bothering to survey mortgageholders, nothing is going to jump out or be predictive of the future state of the market.

Though, if it is the case that there is fragility in the system, it will sort itself out. Look to insure yourself, instead of being “all in” on either end: one end being purchasing without consideration of debt risk, and the other end being the prediction of a collapse and “missing out” on good times, security, and growth from something hot and in-demand.

Or, look at other games and options like moving overseas, different career, etc.

Make sure to safen lending practices, like lowering LVR whenever possible, repaying loans quicker when excess cash if available, and be comfortable renting instead of looking at it negatively, instead looking at it as paying a premium for having options. Even look at ways to insure yourself to potential negative outcomes (if X happens, Y will secure me). Have redundancies.

Thanks for reading.