In an era of high debt-to-income ratio, are Australian households over-leveraged?
While home owners in Sydney and Melbourne have seen significant growth in property values in the past decade, mortgage debt for home owners aged under 40 has doubled since 2002, reveals the August 2017 release of the Household, Income and Labour Dynamics in Australia Survey.
What would interest rate increases mean for the great Australian dream?
CEO, CoreLogic International
About A$7.3 trillion worth of residential property is spread across Australians’ wealth basket. To understand whether they are over-capitalising, you need to look deeper to see how much debt is held against that figure.
There’s about A$1.7 trillion [of debt] against this A$7.3 trillion asset class, and some basic maths shows that the debt-to-value ratio is actually quite low at about 23 per cent. While a lot of Australians hold property, we’re not over-leveraged.
However, there is another perspective to consider, which is the debt-to-income ratio. In Australia, this currently stands at about two-to-one, and that’s a little startling. About 70 per cent of debt relates to property.
Australians living in the southern parts of the eastern seaboard have seen their property nest eggs grow significantly since 2009, through a combination of good luck and good management. We all know that interest rates are at record lows, but if property values decline and rates increase, and you have most of your wealth tied up in property, it’s a potential recipe for over-capitalisation. I think, however, we’re a long way from that.
“While today you may have over-capitalised, in two, three or five years’ time you may not have.” Lisa Claes
It’s also worth noting that over-capitalisation can be short-lived. You might build a second storey on your house on the bet that the property and the region or suburb you bought in is going to increase significantly in value, and that you’re going to pay down your debt. While today you may have over-capitalised, in two, three or five years’ time you may not have.
Chief economist, Bank of Queensland
If you compare the global level of household debt-to-income, which is the benchmark most people use, Australians are right up there. Some countries, such as the Netherlands, have a lot higher household debt-to-income than us, while others, such as the US, have less. Our level has increased in recent years and that’s something you always watch out for from an overall economy standpoint.
Interest rates have been at remarkably low levels in recent times and this has encouraged some people to take on debt. Other factors have also influenced this: we’ve had very strong population growth in the major cities and, up until very recently, we haven’t had the supply of housing to meet the demand and this has helped to drive up prices.
There’s more building happening now and more cranes in the sky. This should hopefully take some of the heat out of the housing market.
Mortgage credit in Australia has increased by about 6 per cent in the past year or two. By the standard of the past two or three decades, that’s not a big number. Where we see the real difference is the rate of credit growth relative to wage growth, which has been pretty modest in recent times.
“… you wouldn’t want the current level of household debt-to-income to keep growing.” Peter Munckton
How much debt is too much debt? It’s a difficult thing to work out on an aggregate level because there’s no definitive answer, but you wouldn’t want the current level of household debt-to-income to keep growing.
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Paul Drum FCPA
Head of policy, CPA Australia
It’s fair to say that borrowings that are backed by assets are less risky than borrowings that are backed by nothing at all. If household debt was increasing solely as a consequence of borrowings to meet recurrent household bills – such as electricity, water, food, rates and school fees – then I suggest this would be a big problem. Mortgages, however, are backed by tangible property assets.
Treasurer Scott Morrison commented on this in a recent speech he gave in the US. He noted that 8 per cent of Australia’s A$2.1 trillion household debt is in mortgages, however total household wealth is around a record A$9.8 trillion. This represents a ratio of assets-to-liabilities of around five to one – with the value of people’s assets predominantly in housing.
Figures from the Australian Bureau of Statistics show average property debt in the nation has increased steadily from A$78,400 in 2003-04 to A$149,600 in 2015-16, and that 29 per cent of households were classified as over-indebted in 2015-16.
This situation could be very different if the current Australian market conditions took a turn for the worse. If interest rates rapidly increased or there was a strong lift in unemployment, for example, this could not only affect a household’s ability to service a current mortgage, but could also dampen investment and asset values.
“Borrowings that are backed by assets are less risky than borrowings that are backed by nothing at all.” Paul Drum FCPA
Further, if a government implemented tax changes that had the effect of destroying the value in residential housing, this could also change the situation.
Happily, none of these scenarios seem likely in the foreseeable future. Are Australians over-capitalising on their mortgages? Not at the minute, at least.
Lisa Claes joined CoreLogic in 2016 and has more than 20 years of financial services experience at an executive level across general management, strategy, sales, operations and corporate governance. Prior to her role at CoreLogic, she served as an executive director for ING Direct in Australia, where she had full accountability for the Australian retail and commercial banking operations. Claes also represented Australia on ING Group’s International Retail Council and chaired the group’s Global Mortgages Forum.
Peter Munckton is the Bank of Queensland (BOQ) resident expert in business economics and market strategy, providing economic and financial market advice to the bank and its clients, as well as assisting with corporate strategy work. Before BOQ, he held senior economic positions with the Australian Treasury, Bankers Trust and the Commonwealth Bank. He has co-written reports on the Australian and Chinese financial systems that gained substantial media coverage.
Paul Drum FCPA
Paul Drum has worked in the tax and business policy arena for more than 30 years, principally in Australia but also in Hong Kong, Malaysia, Singapore, Indonesia and New Zealand. As head of policy at CPA Australia, his portfolio covers tax policy, law and administration, as well as superannuation, business policy and education, and also representation and advocacy to governments and core government agencies. He is a Fellow of CPA Australia.
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