Wood Matters

For the many home owners in New Zealand high house prices offer increased wealth and the ability to refinance and consume more. Most would acknowledge, however, that excessively high house prices have many unfavourable impacts on society and the economy -

• Capital is attracted to a non-productive (in respect to current housing stock) sector.
• High levels of household indebtedness constrain spending and/or other investment.
• High levels of foreign debt (banks source much of their mortgage funding offshore) decrease the resilience of the economy and adversely affected the current account deficit.
• The high barrier to low-income/young people/families owning their own home limits home ownership.

So how do NZ house prices compare?

According to an article sourced on Fairfax Media's Stuff website "A like-for-like comparison shows that the cost of building a new house in Auckland is about 25 per cent higher than in Melbourne and the Australian Gold Coast. Our work also confirms this difference is not due to the requirements of the Building Code."

Hugh Pavletich, in the September 2012 of Local Government (LG), says new starter houses are being provided on the fringes of affordable North American markets for about $US 600 per square metre (say $NZ 723) whereas in Christchurch the price is more like $NZ 2500 per square metre. Hugh further compares Houston Texas' housing affordability of 2.9 times local household incomes to Christchurch where the figure is what he describes as an "unaffordable" 6.3 times household incomes. Auckland's latest surge in house prices would likely put the multiple even higher, despite higher average incomes.

So shouldn't high house prices be stimulating supply of more houses?

Let's set aside the Christchurch situation for the time being where high demand for housing has lifted prices of existing houses considerably, and rebuilding programmes will mean high levels of refurbishment and new house construction for many years, along with the expected local inflationary pressures.

But outside of the Christchurch effect, why aren't high house prices stimulating a boom in new house construction. To find the answer to that, we have to look back to the last housing boom. Through the mid to latter part of the last decade, NZ (and many other countries) experienced a massive housing boom. In markets such as the USA, this was stimulated by the "over-innovation" of debt instruments (such as collateralised debt instruments). In NZ our low interest rates and eager bank lenders coupled with our culture of house ownership and pretty soon a virtuous circle of increasing house prices fed into increasing economic growth, which fed into increasing house prices. NZ's burgeoning finance industry added more financial lubrication, especially for large housing and apartment developments. These projects had rosy futures on the upside of the cycle but most unravelled on the down cycle.

The collapse of finance companies, which were the main source of second-tier development funding, and the reluctance of banks to step up and fill the gap, is resulting in would-be development projects not getting off the ground. In addition, the high cost of constructing houses and the high risks of development projects is not providing sufficient incentive/reward to stimulate sufficient new house construction.

In addition to the funding issue, the following factors are contributing to the supply of new housing stock falling below the demand –

• Of those sectors in New Zealand for which productivity statistics are available, construction is the second-lowest performer. And, according to comparative studies with Australia and Britain, it also performs poorly by international standards. As a result New Zealanders pay more for construction work than they could or should, and/or settle for less than would be possible if the construction sector's productivity performance matched that of other higher-performing industries.
• Building materials, which account for about 55 per cent of the cost of a typical new house, are significantly cheaper in Australia than here in NZ. This reflects the smallness of the New Zealand market and a lack of standardisation of products, along with high domestic transport costs. There is also relatively little competition in the manufacture and supply of some building materials.
• The small scale of the residential building sector also inhibits productivity and adds to cost. According to figures printed for the year to May 2010, 99.2% of building firms built just one house each, just over 0.6% built more than 30 houses and less than 0.2% built more than 100 houses. This industry structure provides less opportunity for innovation, standardisation, bulk purchasing and pre-fabrication and mechanisation.
• The Productivity Commission has found regulatory practices around the availability of land for subdivision, permitting of buildings and inspection of construction that inhibit innovation and add undue costs to new housing.

NZ has a high per capital consumption of wood and uses a lot of wood in housing. However, we also have an inefficient housing market that is getting more expensive and unaffordable

Is there insufficient land available for new subdivisions?

It has become fashionable to point the finger at the limited supply of land available for new subdivisions as the main cause of the problem - as former Reserve Bank governor Don Brash did recently - suggesting that all we need to do to get cheap houses is allow them to be built on rural land beyond current urban limits.

If the availability of land was the root cause, you would expect the cost of sections to be rising as demand exceeded supply.

However, according to REINZ figures, the national median price of sections has not moved at all over the last five years. In the three months to June 2007 the median price of sections was $180,000 and for the three months to June this year it was still $180,000.

Does it matter if we are not building enough houses?

Apart from the prospect of already "unaffordable" houses becoming even more unaffordable and more young people being shut out of house ownership, insufficient house construction is a dead weight on the economy. In addition to the negative consequences listed at the start of this article, the soft house construction market in NZ is constraining the forestry and wood products sectors. More house construction has the potential to employ more people through direct construction jobs and jobs associated with manufacturing building materials.

But the productivity and cost of house construction needs attention to so that developers can build in a margin and NZ wood processors can afford to pay sufficient for their raw materials (e.g. logs) such that log exports are less competitive. To get there, NZ must work hard to develop a globally competitive house construction industry, regulator's must be aware of their vital role of facilitation as well as constraint and control, and the forest products and forest growing sectors must produce low-cost, high-performance building materials to satisfy its customer's needs.