Changing tenure: housing trends, financial deregulation and housing policy in New Zealand since...

Introduction

Housing tenure in New Zealand has been undergoing significant change since the late 1980s. Prior to 1991 New Zealand could be described with some degree of accuracy as a homeowner democracy with the 'home' being a detached dwelling on a large section. While this is still a reasonable

characterisation it is less accurate than it once was. The most visible example of this change is seen in tenure trends with the home-ownership rate dropping from a historical high of 73.8% in 1991 to 68% in 2001, despite a nominal increase in homeowners of 16,000 over the decade. Other features of the changing landscape include: increased investor activity and growth of the private rental market; diversified and highly competitive mortgage markets; and growth in apartment construction and higher density housing.

This paper reviews two key structural changes that have helped to shape the new housing landscape that is appearing: financial deregulation in the mid-1980s and housing policy in the 1990s. New Zealand was not unique in deregulating its financial sector in the mid-1980s; however, it has proven to be one of the most far-reaching examples of programmes of deregulation. Post World War II housing policy in New Zealand placed significant emphasis on home-ownership and this was reflected in a broad range of assistance for first-time homebuyers. This all changed in 1993 when housing policy was completely reformed in favour of a tenure neutral income supplement called the Accommodation Supplement. Existing home ownership programmes were discontinued or significantly wound back. In addition, the large mortgage portfolio built up by the Housing Corporation was sold off for NZ$2.4 billion (nominal). The mortgage portfolio was the second largest state-owned asset sale undertaken in New Zealand.

The paper begins with a discussion of housing trends in New Zealand since 1991 focusing principally on movement in house prices and shifting tenure patterns. It concludes with a brief discussion of the future outlook for home-ownership trends and possible policy responses.

Housing trends in New Zealand since 1990

New Zealand is currently in the midst of a strong house price boom. Between December 2001 and December 2003 the national median house price rose by approximately 27% compared to consumer price inflation of 4.3% over the same period and an increase of four per cent in salary and wages between June 2001 and June 2003.

Chart 1 shows that house prices in New Zealand have generally outpaced inflation since 1981. Since 1990 there have been two periods where house prices rose rapidly: December 1993 to September 1997 and the current period which began in the latter half of 2001. The two key factors that appear to have driven the two booms are financial liquidity coupled with interest rates, and migration.

In the case of the mid-1990s boom a drop in interest rates started the upward movement in house prices. Between January 1990 and January 1994 the variable interest rate halved from 14.8% to 7.65% doubling households' borrowing capacity. While not well understood at the time it is apparent now that households used the increased borrowing capacity to either renovate their existing house or trade-up. This led to a situation where upward pressure on house prices remained high despite low inflation across the rest of the economy. The Governor of the Reserve of Bank tried to suppress house price growth by raising the interest rate to near ten per cent but with little effect.

IMAGE CHART 1

Chart 1: New Zealand's real house prices

Chart 2: Migration and house price trends

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Table 1: Labour as main constraint on expansion of activity

The duration of the boom was sustained by positive net migration into New Zealand (chart 2). At that time migrants were principally middle-aged business and professional migrants with families, that is house-buying households. Their entry into local housing markets, principally the Auckland market, helped to sustain the boom. Only when inward migration fell away did the boom lose its impetus.

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Chart 3: Comparison of rents, house prices and incomes, 1990-2003

The second boom in house prices also appears to have been driven by positive net migration coupled with an expanded capital inflow which the banks mostly loaned to property investors. Migration to New Zealand increased dramatically post the events of 11 September 2001. Not only were new migrants coming to New Zealand but a significant number of expatriate New Zealanders were also returning. However, unlike the inward migration of the mid-1990s the recent migration boom has been amongst more youthful and less wealthy households (Badcock 2004). This has placed greater pressure on house prices in entry-level segments of housing markets and the limited supply of affordable accommodation that exists in New Zealand. In the case of low/modest income homebuyers they are facing increased competition from investors looking to expand their rental portfolio.

House price growth is also being fuelled by a building sector with limited capacity to meet the demand for the new housing required, particularly in the main urban centre of Auckland. The single largest factor constraining the building sector's ability to respond to increased demand is labour. In June 2003 36% of building related firms cited labour as the main constraint on their ability to expand compared to 14% for all firms (table 1).

While the boom appears to be easing it reflects a longer trend of a growing gap between house prices and incomes as reflected in chart 3 below. Even in periods of negative real price growth the gap did not close so much as remain constant. For those homeowners already in the market this is not necessarily problematic unless they are moving between regions2, but represents a particular challenge for first-time homebuyers seeking to enter the market.

As house prices grew faster than incomes over the 1990s New Zealand's home-ownership rate declined from a historical high of 73.8% in 1991 to 68% in 2001. In absolute terms the number of households in home-ownership increased by approximately 16,000 households between 1991 and 2001 compared to 138,000 households in the previous decade. In addition, the greatest drop in home-ownership rates was amongst 25-44 year old age cohort which experienced a ten per cent drop - the key age period at which people make the transition into home-ownership (Statistics New Zealand 2004). It was during this period that government withdrew from direct assistance to homeowners in favour of a tenure neutral income supplement called the Accommodation Supplement which was available to both homeowners and renters. Private rental housing grew by approximately 100,000 units or 35% throughout the 1990s and accounted for over 80% of the total increase in private occupied dwellings over the decade. The private rental market in New Zealand is dominated by small investors who tend to own only one to two properties and it would appear that a significant proportion of the additional capital flowing into the local mortgage market went to investors.3 For instance, in 2003 a major lender reported that despite very favourable interest rates, only four per cent of borrowers are first home buyers (New Zealand Housing Strategy 2004 p 10). Based on the current tenure trend, chart 4 projects that by 2011 the home-ownership rate will have fallen to around 62%.

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Chart 4: Projected changes in housing tenure to 2011

Financial deregulation and its impact on household borrowing and finance

Prior to the reforms of the mid-1980s New Zealand was a highly protected economy with central government control extending over a wide range of economic activity including lending activity. Following the financial reforms one commentator argued 'few countries [as New Zealand] are as open to the movements of capital, technology and trade. There can't be many countries where finance encounters so few restrictions' (Jesson, 1999. p. 187).

New Zealand's financial sector was also heavily regulated and access to mortgage finance was highly restricted. There were few private sector lenders in the market and prudential lending criteria were such that only homebuyers who represented a very low risk managed to secure finance. Counter-balancing the conservative mortgage market were government schemes targeted at assisting first-time homebuyers into home-ownership. The subsequent financial reforms removed many of the barriers that existed and today the mortgage/personal loan market is probably the most competitive segment of the finance sector in New Zealand.

The key financial reforms that opened up the mortgage lending market were the removal of interest rate controls and reserve ratios and a range of credit guidelines were revoked. All of these control mechanisms had effectively constrained credit growth and diverted funds from private sector activity to government (Hull, 2003 p6). In addition three macroeconomic reforms gave New Zealand banks better access to overseas credit and improved access to New Zealand's financial markets to foreign capital. The macroeconomic reforms involved relaxing overseas borrowing controls; restrictions prohibiting New Zealand financial institutions from borrowing overseas were removed; and foreign-owned companies operating in New Zealand had unrestricted access to New Zealand's capital markets (Hull, 2003. p6).

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Chart 5: Household debt as a percentage of disposable income

The implications of deregulation for households were twofold: increased access to credit and increased competition for their business. No longer did homebuyers need to go to the bank manager 'cap in hand' to secure a loan. New Zealanders were quick to take up the additional credit, as shown in chart 5 above. Much of the expansion in credit was funded from overseas sources to the point where "New Zealand banks now rely more heavily on overseas borrowing than the banks of any other developed country" (Stirling as quoted in Badcock 2004, p62).

Households' access to credit improved as banks looked to the residential sector to revive their fortunes after the New Zealand share market crash of 1987 (Badcock, 2004, p 62). This was done through the relaxation of prudential lending criteria, particularly deposit requirements. In addition, banks introduced new products like revolving credit facilities that enabled households greater flexibility in their financial arrangements. The net effect is that lending for residential housing accounts for the lion's share of lending undertaken in New Zealand. In 2002 registered banks held approximately $70,000m in mortgage loans compared to $53,000m for commercial/financial activity, the next largest lending category.

The demand for mortgage finance from New Zealand households and subsequent injection into local housing markets is not unsurprising given the favourable tax treatment of housing in New Zealand. Yet little of this increased credit appears to have gone to support first-time homebuyers into their first home. The mortgage finance sector in New Zealand, while highly competitive, remains inherently conservative in its lending activity. If anything low/modest income homebuyers face more barriers to achieving home ownership today then they did pre-1990, even allowing for significantly lower interest rates. For instance, the benefit of lower deposit requirements are offset by higher income to housing cost ratio requirements effectively excluding many lower income households.

Competition has principally benefited those already in the housing market and first-time homebuyers are facing increased competition from investors for the limited stock available in that market segment. There was an expectation that increased competition would fill the gap left by the withdrawal of government from the mortgage market but this has not proved to be the case. Rather, the type of loan finance extended to low/modest income household is more in the nature of credit card/personal loan finance including hire purchase finance. This type of finance typically incurs higher interest charges and can act as a barrier to accessing mortgage finance.

Housing policy since 1990

Government support for home-ownership had already started to decline prior to 1990 but with a change of government in 1991 direct support for home-ownership quickly dwindled to almost nothing. Prior to 1991 successive governments offered a range of direct assistance to homeowners primarily in the form mortgage finance, incomerelated interest rates and various forms of deposit assistance. The primary target for this assistance was modest income firsttime homebuyers who, given tight financial regulation, were heavily dependent on government assistance to achieve homeownership.

Direct support was replaced by a tenure neutral form of income supplementation called the Accommodation Supplement available at the same rate4 to all eligible households. The government argued that the changes were required as the existing system was inequitable and did not treat people with similar needs equally (Luxton 1993). For instance, those in state housing received a significantly larger rental subsidy than those in the private rental market.5 In the area of home-ownership government's principal form of assistance to homeowners had been in the form of low-interest mortgage finance. Low-income homeowners who had a private sector mortgage were not entitled to any interest concession and it was this discrepancy that the new approach sought to overcome.

Prior to the introduction of the Accommodation Supplement in 1993 the government was a significant participant in the mortgage market. In 1989 it accounted for approximately eight per cent of all new lending originated. Given that this assistance was restricted primarily to firsttime homebuyers, the government played an important role in assisting households to make the transition from renting to homeownership. A survey conducted in 1991 found that 42% of Housing New Zealand Corporation borrowers were beneficiaries and 30% were households headed by a female (Murphy 2000).

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Table 2: Privatisation proceeds, 1988-1999 The Top Twelve

In addition to moving away from direct home-ownership support through the provision of loans and income-related interest rates the 1991 housing reforms included the sale of the substantial loan portfolio HCNZ had built up over three decades. Over eight years NZ$2.4 billion worth of mortgages were sold (Murphy 2000). A portion of the portfolio was retained as it contained mortgages that were unattractive to the private financial sector.6 The selling off of the loan portfolio represented the second biggest revenue generator of the Government's privatisation programme but did not receive the level of attention and debate that smaller sales like Air New Zealand ($660m) and the Post Office Bank ($678m) did (Murphy 2000).

The government did not completely withdraw from the direct provision of homeownership support, indeed, it set up two new home-ownership initiatives in the mid1990s. However, neither programme was introduced with the intention of encouraging home-ownership; rather, home-ownership was seen as a way of addressing other objectives. The Low Deposit Rural Lending programme, targeted at low-income households living in rural areas, had a primary objective of reducing substandard housing. Through home-ownership households would develop appropriate skills like home maintenance and take more care of their properties because they had a direct financial stake in it.

The Home Buy programme, targeted at HCNZ tenants, had a primary objective of speeding up the process of selling off the government's social housing portfolio and enabling tenants achieve greater selfsufficiency. Just as the government of the day did not feel it was appropriate for the state to provide direct home-ownership support nor did it feel it should provide rental housing as this could be provided more efficiently by the private sector under the new tenure-neutral Accommodation Supplement.

In 1999 a change of government resulted in a shift back to some of the housing policies pre-1990. However, it was mostly been in the area of social housing and not homeownership policy. The new government retained the Low Deposit Rural Lending programme but discontinued the Home Buy programme to prevent the further sale of state-owned social housing.

The Low Deposit Rural Lending programme has three key elements: pre-purchase education which participants need to graduate from to be eligible for a loan; a loan with a three per cent deposit requirement; and post-purchase support emphasising early intervention to reduce the risk of loans defaulting. Most of the participants are on low-incomes and would not be considered a viable lending prospect by lenders.

The pre-purchase education and post purchase support are provided by local non-government organisations contracted to Housing New Zealand Corporation. Each group delivers the two elements slightly differently but the core approach remains the same. Pre-purchase education involves attending a Home Ownership Skills course (approximately 12 hours) which covers topics like becoming a homeowner, basic repairs and maintenance skills, health and safety in the home and budgeting advice.

Emphasis is placed on sustaining homeownership as opposed to simply achieving it, as the former aspect is often not fully considered by prospective homeowners. Upon completion of the course graduates are eligible for a three per cent deposit loan as long as they meet HNZC's other prudential lending criteria. For those who do achieve home-ownership ongoing support is given by the local provider. At an informal level this support is based on the relationship developed between the provider and homeowner during the Home Ownership Skills course. Formally, in response to concerns raised by HNZC (primarily arrears) the provider will approach the homeowner to see what is preventing them from meeting their mortgage repayments and to discuss options for resolving the issue.

At the end of 2003 there were 7,000 graduates out of which 1,000 have gone on to draw down loans from Housing New Zealand Corporation.7 No loans have defaulted despite the low deposit requirement and the marginal financial situation of many homeowners. In addition, many graduates, even if they have not gone onto home-ownership, found the educational component useful for the development of generic budgeting skills and exerting control over their finances.

In September 2003 the Government launched a small pilot scheme called the Mortgage Insurance Scheme. MIS was introduced to encourage private sector lenders to extend finance to viable but under-served segments of the homeownership market. The target market is low/modest income first-time homebuyers marginally out of reach of home-ownership. The primary criterion being relaxed is the deposit requirement on loans.8 At the moment the MIS is offered only through one bank as it is a pilot initiative and the number of target loans is modest (1,800 over 21 months). At the end of March 2004, 2,193 applications were received of which 201 loans were insured/settled; a further 179 loans were pre-approved. Interest in the scheme has been broad based and the demographic profile of the successful applicants reflects this fact.

Looking ahead - the future of homeownership in New Zealand and its implications

The decline in the home-ownership rate cannot be fully explained by the growth in house prices, financial deregulation and change in housing policy alone. For instance, the decline is observed across income deciles and not amongst low/modest income households alone. Other contributing factors include changing lifestyle choices, growth in tertiary student debt levels (an important first homebuying segment), and easily accessible credit for consumer purchases. Unfortunately, there is a paucity of research in New Zealand to determine the relative importance of various factors and so it is difficult to make an accurate assessment of the drivers of the decline.

The change in the tenure structure from home-ownership to renting is likely to continue for sometime yet and has implications not only for housing policy but also other policy areas like superannuation. Badcock (2003 p 5) notes that homeownership is an implicit cornerstone of New Zealand's retirement policies. That is, 'the savings locked up in the family home provided a form of 'future-proofing' in old age and a very effective way for the state to privately pre-fund a major part of retirement costs'. If an increasing number of older households are renters in their retirement then there is likely to be increased demand for housing finance assistance. Also in a low-inflation environment people will experience more prolonged periods of debt repayment that may extend into their retirement years.

The current government's focus remains on assisting those at the margins of homeownership rather than attempting to reverse the downward decline in the homeownership rate. Implementing policies designed to reverse the tenure trend would be expensive and would make it difficult for the government to maintain a prudent fiscal strategy while still funding other policy priorities. The sell-off of the mortgage portfolio in the 1990s removed a potential capital base upon which a more far reaching programme of home-ownership assistance could have been built and it would take years to rebuild it again.

Moreover, it is not clear that returning to the home-ownership programmes of the past will be as effective today. Many of the schemes New Zealand governments used in the past relied on a high degree of state intervention in housing markets to remain effective. For instance, in the post-war years government was heavily involved in housing supply and so could ensure to some degree that there was adequate housing available to meet demand and consequently contain house price fluctuations. Today, however, government is reluctant to intervene on the supply side. When this is combined with increased investor activity in housing markets and the independence of the Reserve Bank to set monetary policy, the effectiveness of any large home-ownership initiative of the past would be significantly curtailed.

The focus of current policy is on small initiatives targeted at assisting those marginally out-of-reach of home-ownership and not on halting or reversing the tenure trend toward renting. The positive experience of the Low Deposit Lending programme suggests that there are avenues for assisting households into homeownership that do not involve large subsidies and the Mortgage Insurance Scheme indicates that there is still a strong demand for home-ownership in New Zealand.

FOOTNOTE

1 The views expressed in this article are those of the authors and not the Housing New Zealand Corporation or the New Zealand government.

2 The national trend hides a lot of regional variation within New Zealand which it is not possible to explore in this article.

3 Unfortunately the data on bank lending does not distinguish between loans made to investors and those made to owner-occupiers. Australian data is much better in this regard and the Reserve Bank of Australia have noted a significant increase in lending to residential real estate investors (www.rba.gov.au).

4 There was one difference in that the entry threshold for assistance was 5% higher for homeowners than renters (ie, home-owners had to spend 30% of net income on housing costs before being eligible for assistance compared to 25% for renters). Homeowners, it was argued, gained the additional benefit of building equity in their home which renters did not and therefore a higher entry threshold for homeowners was justified.

5 Those in state rental housing paid an income-related rent and could receive up to a 100% subsidy above the income threshold of 25% of net income and the market rent. Similar households on similar incomes in the private rental market were entitled to a maximum subsidy of 50% above the income threshold of 25% of net income and so were disadvantaged when compared to those in state rental housing.

6 For instance, the former Housing Corporation of New Zealand and the former Department of Maori Affairs provided mortgages for houses built on multiowned land where there was no security over the land given its status only the house which decreased in value.

7 No data are collected on graduates who may have gone to source a loan from a private lender.

8 On loans up to $150,000 no deposit is required and loans between $150,000 and $280,000 a 5% deposit is required. This is available only through Kiwibank, the government's partner in the MIS.

REFERENCE

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AUTHOR_AFFILIATION

By Ian Stuart, Senior Policy Analyst, Blair Badcock, Policy Manager, Andrew Clapham, General Manager Home Ownership and Roger Fitzgerald, Product Development Manager, Housing New Zealand Corporation, Wellington1

Ian.stuart@hnzc.co.nz