It’s not often that we can be grateful for the lack of very strong growth in a particular area of investment but, perhaps, this is one of those occasions. The property market in New Zealand is experiencing steady growth at present tempered somewhat by the slightly higher cost of borrowing here than in other places. In contrast, very strong property prices are something of a double-edged sword in the USA and the UK at present where very low interest rates prevail.
Interest rates are at a forty year low in the US and historical lows in the UK whilst house prices are booming in both places. It has been reported recently that house prices in the UK are rising at a record 30.4% annually, the increase in October alone being nearly 5%. In the US, the OFHEO house price index rose 9.3% in 2000 and 6% in 2001.
In the UK, this has the Bank of England worried. The manufacturing sector is weak and a cut in interest rates would help. However, they also fear a rate cut would further stimulate house price demand. Ultimately, the boom will turn to bust and it has the potential to plunge the economy into recession. People have taken on large debts against rising house prices and many have re-financed to release cash for spending. The house price boom has now reached the levels of the l988/89 boom, which ended in a sharp correction coupled with high interest rates, negative equity and a recession.
The difference between l989 and the current situation is interest rates. They are at historic lows compared to the doubling of rates from 7.5% to 15% during the early l990s. Nevertheless, it makes for difficulties for the Bank of England in determining monetary policy.
“Equity withdrawal” is known as “Cash Out” in the US and it’s very popular there too. In 2001 there was an unprecedented number of home loans that were re-financed. The level was twice that of 1998 which was thought to have been an extraordinary year. Re-financing is made simple in the US where two Government sponsored enterprises, Fannie Mae and Freddie Mac, have a computerized, fast and relatively inexpensive system of dealing with existing house borrowings and other debt using long, low interest rates. The average cash out is about US$25,000 per loan which, last year, put an additional US$150 billion into the economy. This was largely spent on consumer items and was responsible for keeping economic activity going over the period.
Clearly, the stimulus provided by low interest rates to the general economy and, in particular, the housing market in some places has been helpful over the last couple of years. The extent to which this can continue is now a serious question exercising the minds of many. In New Zealand, we are only too well aware of property market excesses. It makes a change to be an observer, for once.
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