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Who can forget the 2008 global economic crisis? It was a classic case of what happens in a market economy when the players - from giant companies to individual investors - do not trust one another or the institutions that they have built. But unlike many developed countries, Australia (one of the largest mixed economies in the world) was spared as the banking system had remained strong and inflation was under control. This was due to the government surplus that accumulated over an extended period of high economic growth by a fiscally conservative approach to budget deficits. The availability of ‘shovel-ready’ construction projects, assisted by forward planning on infrastructure further helped this lucky country (which had tasted the bitter economic taste of recession, way back in 1991) to evade the world economic crisis (Yates, 2013).

The construction industry is a key driver of the Australian economy. It has a wide reach into the manufacturing, supply, and retail sectors. Home ownership in the country is about 60 per cent but house prices across Australia have been on the rise for some time. To understand why house prices in Australia are skyrocketing, the concept of a housing bubble needs to be understood.

A housing bubble refers to a situation wherein there is a rapid price rise in a given housing market. In theory, the bubble bursts when there is a decline in property prices triggered by an unexpected event or an economic shockwave, like increasing unemployment or a surplus of property. In simple words, there is a rapid increase in the valuation of property. Once they reach unsustainable levels relative to income and rent, prices eventually decline and thus the so-called bubble bursts. Australia is experiencing a housing bubble – a buying frenzy that results in soaring prices. This in turn attracts speculators and investors, who drive the demand even further, only for it to dissipate resulting in a sudden and heavy drop in prices.

Good housing has a particularly important significance within Australian society. Widespread access to decent housing is especially important here because the community has long-established expectations of high levels of home ownership as a central component of a high standard of living (Paris, 1993). So what is behind this huge house price drive in the world's smallest continent and largest island? A number of reasons can be cited.

One reason can be the constant low interest rates and inappropriate fiscal settings which have made debt repayments appear more manageable, though they have encouraged homebuyers and investors into the property market. However, interest rates will rise at some point in time and are likely to cause some mortgage stress. For example, if you’re paying back at 4% now and interest rate increases to 7-8%, then repayments are doubled. Stress tests are being carried out regularly by Australian lenders to check for the capacity to survive a substantial housing market correction.

Another cause of rising prices is the high immigration rate. New migrants want to live in the four metropolises, namely Sydney, Melbourne, Brisbane and Perth. Sydney and Melbourne are ranked as some of the world’s most liveable cities. It is no surprise then that both these cities account for 40% of Australia’s economic production. The number of people who want to come and live in the world’s 13th largest country exceeds the number that can be allowed in. It presents a problem, however, because housing is in short supply. The more people arrive, the higher the demand gets, which sees a rise in market price.

In short, the poorly diversified portfolios of Australian lenders as a whole, combined with the highly concentrated nature of the finance sector, a heavy reliance on housing construction as a driver of economic activity, a concentration of household wealth in residential property, and strong links between housing wealth and business and consumer confidence and spending, have left Australia highly vulnerable to any significant downturn in the housing markets. (North, 2017). If property falls in value by as much as 40% or even more as some analysts predict, then this is very likely to put the country in a serious recession. The reason is that the entire Australian economy is heavily dependent on real estate.

As of 2018, it is predicted that Australian house prices will crash but the question is - when will the bubble burst? There is no single answer but the likely cause which can trigger it will be higher unemployment rates as people would not be able to afford mortgages they were currently carrying so they would be forced to sell. Other causes include decrease of consumer confidence, tightening lending restrictions, banks increasing home loan interest rates and a stock market crash.


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Header image courtesy: http://www.australia-explained.com.au/site/assets/files/1165/2016-07-15-photo-00000033.720x0-is.jpg

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Written By Siddharth Jain

Management Student at SSCBS, DU

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