07.05.2023 Local News

How Rising Living Costs Are Impacting The Property Market

How Rising Living Costs Are Impacting The Property Market

The cost of living is rising faster than at any time since the 1980s.

So what impact is this having on the property market?

If you think things are getting more expensive, you’re right. In December 2022, the Consumer Price Index (CPI) – which measures the growth in the cost of a ‘basket’ of goods, or inflation – came in at an eye-watering 7.8%. The last time it was that high was September 1987. And before the pandemic struck, we were accustomed to seeing inflation hovering at, or even below, 2%.

So what impact is this having on the property market right now – and what impact is it likely to have if inflation continues to rise this way?

What’s behind the rising cost of living?

Without getting too deep into economics, there are generally two types of inflation – cost-push inflation, where the price of goods and services rises because of a decline in supply (i.e. usually the cost of production goes up) and demand-pull inflation, where people are prepared to pay more (usually due to rising wages).

But the two aren’t mutually exclusive. They often combine together to send inflation even higher. And, for the last year or so, we’ve been seeing both.

On one hand, supply chain issues, Russia’s invasion of Ukraine and other factors sent prices higher. On the other hand, growing wages – due to labour shortages in the pandemic and pent-up demand from lockdowns meant many people were prepared to pay more.

The property market’s contribution to inflation

One place where it was obvious people were prepared to open their wallets was when it came to spending on their homes. Over 2021 the price of properties across Australia rose by more than a quarter, according to CoreLogic. This added to the amount people needed to borrow to buy a new home.

But it wasn’t just sale prices that rose. Construction costs – and therefore the cost of renovating – went up dramatically too.

Then, as soon as the sales market cooled, the rental market lifted, with the median Sydney rent rising 27.5% over the past 12 months.

Given that housing costs account for 22% of the CPI, this all had a profound effect on our inflation figures. But it wasn’t only the cost of housing that contributed to growing costs. The war in Ukraine sent fuel prices higher, and the lack of new vehicles sent car prices higher (transport accounts for 11% of the CPI). Supply chain issues sent the price of food, alcohol and consumer goods higher too. Even a lower Australian Dollar contributed to the rising cost of goods and services.

Why has the RBA been raising interest rates?

On its website, the Reserve Bank of Australia (RBA) explains why it dislikes inflation so much. The most obvious impact is that it makes everything more expensive – unless it’s accompanied by wage rises. If these wage rises happen, it impacts the cost of doing business, so companies need to put their prices up. Once this starts happening, we enter a vicious cycle where it’s difficult to control.

The RBA also says that high inflation affects investment because lenders are wary of receiving a particular rate of return if it won’t keep pace with the growth in prices.

For this reason, it uses the only weapon at its disposal – raising interest rates – to try to bring inflation down. The reasoning is that if borrowers have to devote more money to their mortgage, they’ll have less to spend on other items.

Since May 2022, the RBA has raised the interest rate no fewer than 11 times, taking it from 0.1% to its current rate of 4.1%. This is the single fastest leap in interest rates in Australia’s economic history.

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Why are house prices rising then?

While house prices fell over 2022, they have since started rising again. In the four months to May 2023, Sydney’s median value lifted 5.3% – including a 1.8% rise in May alone, according to CoreLogic.

This tells us that enough borrowers can still afford to take out a mortgage and buy a property even at current interest rates. That’s saying something, given that the cost of a $1 million mortgage has gone up by roughly $2,000 a month since May last year.

However, there are other factors at play here too.

First, there simply aren’t enough properties for sale: supply has fallen well below demand. This is most obvious in the prestige market, where we’re still setting records, as well as in properties suitable for downsizers (plus, PEXA research found that more than a quarter of all sales last year were to cash buyers with no mortgage).

Second, a lot of people have been putting off moving while they wait to see where the RBA lands with interest rates and how the broader economy settles down. Many are now coming out of the woodwork – unable to put off their moving decision any longer.

Third, an exceptionally strong rental market is starting to encourage first-home buyers onto the property ladder even in the face of rising interest rates. They’re being joined by investors looking for strong yields.

Finally, our population is again growing rapidly, with forecasts of as many as 700,000 new residents in Australia by the end of next year.

How is high inflation impacting property development?

One sector where inflation can wreak havoc is in property development.

Inflation changes the entire budget of developers, meaning that many projects they intend to complete are no longer viable. The increased cost of construction won’t be matched by an increased cost of sale. This especially impacts developments in less expensive areas, where margins tend to be tighter.

A lot of developers also rely on selling ‘off the plan’ to fund development projects, especially smaller developers. However, in periods of high inflation, this no longer works because the cost of building an apartment or townhouse may end up exceeding what they sell for.

These factors mean fewer properties get built – and those that do tend to be in affluent areas. It also means developers will often take less risk, so any developments tend to be smaller.

Want more?

If you’re thinking of buying or selling in Sydney’s eastern suburbs, get in touch