House price growth in Australia has been slowing in recent months, led by Sydney and Melbourne, Australia's largest and most expensive property markets.
That trend looks set to continue, says the Commonwealth Bank, driven by tighter lending standards from Australia's banking regulator, APRA, along with weak wage growth, affordability constraints, an increase in apartment supply and, eventually, higher mortgage rates.
"We believe the headwinds for housing prices will strengthen through 2018," says Michael Workman, senior economist at the CBA, adding that "cycles will vary across the capitals".
As seen in the table below, the CBA is forecasting that prices will increase in most capitals this year -- including in Melbourne -- helping to offset continued weakness in Sydney and Darwin.
Combined, the movements point to flat price growth in Australia's capital cities in average weighted terms over the year, a steep step down from the the levels seen in previous years.
While there are numerous factors that underpin this view, Workman says tighter restrictions towards investor and interest-only lending largely explain the recent deceleration in price growth in Australia's largest cities, making this cycle different as opposed to those in the past which tended to be driven by changes in interest rates.
"Australia’s housing prices are very cyclical and usually driven by mortgage rate changes. This cycle is slightly different," he says.
"The correction in the current cycle is driven via the combined dampening effects of a strong credit squeeze on new lending.
"Tighter lending criteria acts like an interest rate rise."
In late March last year, APRA, Australia's banking regulator, capped interest-only lending to 30% of total new mortgage lending at Australian authorised deposit-taking institutions (ADIs).
That move followed a 10% annual cap on investor housing credit growth introduced in December 2014.
Combined, the tighter restrictions led to a drop in investor lending activity, coinciding with the sharp deceleration in Sydney and Melbourne property prices in the second half of last year, those markets previously dominated by investors.
With those macroprudential measures unlikely to be watered down or removed anytime soon, Workman says a variety of other factors should act to "flat-line" price growth this year.
"For local buyers, the headwinds on the demand side are building," he says. "The main one is weak wages growth, which will limit demand pressures."
Workman says this, following years of strong price growth in many of Australia's southeastern capitals, has made it increasingly difficult to save for a housing deposit, crimping demand for those looking to enter the property market.
"For the average household, with annual disposable income of $120,000, it is increasingly difficult to save the 20% deposit on Australia’s median priced house of $668,000," he says.
"Effectively, the deposit of $135,000 [to avoid paying lenders mortgage insurance] is 110% of yearly disposable income.
"For the more expensive cities, like Melbourne and Sydney, where the median house prices are $900,000 and $800,000 respectively, the deposit required is closer to 200% of annual disposable income."
Workman says this is well beyond the reach of most households, pointing to the chart below.
"From 2003 to 2008 the ratio was stable at around 100% of a year’s average disposable income, or near $110,000 in 2016 dollars, because of eight consecutive large personal income tax cuts," he says.
"The prospect for more tax cuts in coming years is remote given the Federal Government’s budgetary issues. So affordability, from a deposit view point, is likely to worsen, not improve as housing prices rise."
Along with headwinds for local buyers, Workman says higher stamp duty charges on foreign investors introduced by several state governments has also contributed to waning overseas interest, further limiting demand and helping to offset positives for price growth from strong levels of population growth.
And with demand starting to soften, Workman says there's also an abundance of new housing supply about to hit the markets, adding to downward pressure on prices.
"On the supply side, there is record new construction under way," he says.
"It will deliver significant new stock to property markets, mainly in the largest cities, Melbourne, Brisbane and Sydney, which have recorded the highest price gains.
"Record new apartment supply in the three largest cities, and their suburbs, should restrain growth in prices and rents through 2018 and 2019."
The CBA is forecasting construction of new dwellings to stay "relatively high" at 203,000 this year before slowing to around 190,000 in 2019.
With much of this new supply set to be apartments, Workman expects prices for these types of dwellings to underperform those for houses in the period ahead from a broader national perspective.
"We see the divergence between the price growth for detached houses and apartments as continuing through 2018 and 2019, mainly because of large new supply," he says.
"The main oversupply concerns are in the multi-unit segments in the inner-city suburbs of Brisbane and Melbourne. Based on current approvals data there could be increases of between 7% and 12% to the current dwelling stock in some suburbs."
The final piece of the house price forecast jigsaw puzzle, says Workman, is the outlook for mortgage rates.
"Previous house price falls in Australia have been relatively short-lived and the coming one should be similar," he says.
"It also depends on the size of the RBA rate rises over 2019."
Workman thinks higher rates are on the way; the only question is when.
"Interest rate risks are skewed towards higher outcomes over 2018 and 2019," he says.
"Eventually, inflation and wages growth will rise here as the unemployment rate falls towards 5%. Fixed mortgage rates are expected to keep rising in line with higher US longer term interest rates."
While seemingly a treasure trove of reasons for why prices could actually fall rather than flatline, Workman doesn't share the view of some other forecasters that prices could fall nationwide in the period ahead, predicting that prices across the capitals will lift by 2% on average in 2019.
"Some demand conditions, like firm population and jobs growth will remain positive for housing demand," he says.
"At current population growth rates the number of households in Australia is forecast to rise by 18% over the next 10 years, from 9.2 million to 11 million.
"That’s nearly 2 million, or 200,000 per year.
"It will mean considerably more housing demand pressure if annual dwelling construction falls below 180,000."