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Australia is attempting to let the air out of a housing bubble without also deflating a vital source of economic growth or stressing a deeply-indebted household sector.

It's a balancing act few others have pulled off and there is scant room for error as the country is already struggling with the aftermath of a once-in-a-century mining boom.

Adding to the stakes are record levels of household debt, whose ratio against disposable income is even higher than that of the United States when the market there collapsed in 2007. This has left policy makers in an uncomfortable bind.

The Reserve Bank of Australia (RBA) has made clear its reluctance to cut interest rates again for fear of overheating the market. But neither do they want home prices to fall in a way that would stress over-leveraged owners and potentially deal a damaging blow to the economy.

"This leaves a sense that it will be hard to get the Goldilocks adjustment the RBA would like, which stabilizes risks without snuffing out the growth contribution from housing," said Ben Jarman, an economist at JPMorgan.

That growth is desperately needed as mining spending is in full retreat after a decade of breakneck expansion. It was a major reason the RBA cut rates to record lows of 2 percent earlier this year, a stimulus that is seeing more homes built than ever before.

Yet it also sparked a stampede of borrowing for buy-to-rent properties, an investment which offers tax breaks in Australia. That in turn helped inflate home prices in the major centres of Sydney and Melbourne and draw the ire of regulators.

The RBA was alarmed enough to call housing the "key domestic source of risk" to both the financial system and the economy.

Its concerns only grew when a review of the commercial banks' books found home loans for investment had been understated by a whopping A$50 billion.

Regulators have responded by clamping down on lending practices and imposing a speed limit on growth in investment loans. Higher capital requirements on mortgages also led banks to lift borrowing costs on the vast bulk of their home loans.
 All of which has had a sudden chill on home values.

Prices in Sydney fell 1.4 percent in November, according to Core Logic RPData, while Melbourne suffered a sharp 3.5 percent decline. The property consultant's measure of home values across the major cities is widely considered the most reliable.

Annual price growth is still running above 10 percent in both cities, but leading indicators of demand such as auction clearance rates point to more falls ahead.

Appetites were already set to be sated by a packed pipeline of new homes. Particularly challenging will be the record number of high rise apartments under construction, heavily concentrated in the inner cities.

A sustained drop in home prices would be a dangerous development as Australians have an awful lot of debt - A$2.2 trillion in total with A$1.5 trillion of that in mortgages.
 One key measure of risk is the ratio of debt to household disposable income, and it is already far into the red zone. Since early 2014 the ratio has shot up 15 percentage points to a dizzying 186 percent, near the highest in the rich world.

The same ratio in the United States peaked in 2007 at around 130 percent before that market crashed, although the type of high-risk subprime debt that did so much damage in the U.S. is almost nonexistent in Australia.

Australia's banks also have greater exposure to property than most of their peers, with mortgages accounting for fully 60 percent of their loans.

"While the Reserve Bank is likely to welcome a slowdown in home value appreciation, the overriding objective would be to avoid a significant downturn in the housing market," says Tim Lawless, head of research for RP Data.

"It would act as a weight on economic growth and potentially impact financial system stability."