The Prime Minister recently made it clear that he was relaxed about Auckland’s overheated housing market. ‘Aucklanders are getting wealthier,’ John Key said. ‘The point is there are over 500,000 Aucklanders that own a home. They are significantly wealthier.’
On one level, the Prime Minister is right. If you are lucky enough to be an Auckland homeowner, you would have seen your assets increase by 26% last year. By some measures, the value of an average Auckland home has increased by twice the amount an average worker earns. So of course Auckland homeowners feel wealthier because of rising house prices.
High prices don’t boost the economy
There is a problem with this kind of logic, however. While it is possible for individual homeowners to get richer on the back of a buoyant housing market, the country does not get wealthier at all if prices increase. To understand why, we only need to go back to Adam Smith.
Writing in The Wealth of Nations (1776), the founder of economics wrote, ‘Though a house … may yield a revenue to its proprietor, and thereby serve in the function of a capital to him, it cannot yield any to the public … and the revenue of the whole body of the people can never be in the smallest degree increased by it.’ That is, according to Smith, because ‘the house itself can produce nothing’.
That is pretty dense 18th century prose, but Smith’s basic insight is still correct. Houses are not productive assets. To be more precise, the shelter they provide does not vary with the price tag attached to them. Whether a house is valued at $100,000, $500,000 or $2 million does not change the basic amenity it provides to its occupants.
Rising prices aren’t good
This makes it odd how part of the property commentariat have become used to talking about rising house prices as a good thing. We would never talk about other price rises in the same way. If electricity, car or bread prices go up, the same newspapers would call this inflation and lament the deteriorating cost of living.
With house prices, it is the other way around. We have become so addicted to increasing property prices that we have forgotten what houses are actually meant to provide. They are more than just shelter but a place to bring up kids and, quite literally, the building blocks of strong communities.
Need an increase in supply
Unfortunately, if we want houses to fulfil these functions, we need to make housing affordable again. We need to bring house prices into a better relationship with wages. A median house should not cost more than three times a median household’s income. In Auckland, this ratio stands at more than eight times!
The key to housing affordability is supply. It was a lack of supply that got us into our current mess – and it can only be through an increase in building activity that we can get out of it.
Increased affordability will not make Aucklanders feel richer – but it will make the country better off as a whole.