Housing debt was high going into the COVID-19 crisis, and liquidity buffers were low.
The rapid rise in housing prices (90% increase since 2005), due in part to years of falling interest rates, has outpaced average weekly earnings (65% increase between Nov 2004 and Nov 2019) and created high levels of debt for households in Australia (195% of income on average).
In February 2020, 24% of mortgages with prepayment facilities were ahead by less than three months.
A further 19% had no prepayment facilities.
Low borrowing costs are helping many households, but there’s likely to be little support ahead from falling rates
Reducing borrowing costs for indebted households is a key way to reduce risk of housing stress during an economic downturn.
Recent government stimulus (JobKeeper, Jobseeker supplement) and mortgage repayment deferrals have also provided temporary assistance to some borrowers.
The cash rate is already very low, however, so there is unlikely to be further reductions in borrowing costs for borrowers.
This essentially “locks in” borrowing costs, which is riskiest for new borrowers.
The low wage growth expected for the foreseeable future also limits the ability of borrowers to reduce their payments as a share of their income.
Pandemic-related income disruption may create pockets of housing stress amongst new homeowners, newly refinanced homeowners or young homeowners, in particular.
Cohorts that are less likely to be affected have taken on the biggest housing debt increases in recent years
The median owner occupier loan for households in the highest income quintiles increased by 41% between 2006 and 2018, while the lowest 40% of income earning households had median owner-occupier housing debt growth of 28%.
Higher income households are much more likely to have owner-occupier debt.
The nature of this crisis means that the employment effects are being felt more by casual/younger employees, who are more likely to be renters than home owners.
The share of people under 35 with owner-occupier housing debt fell in 2006–18, and median housing debt increased the least for under 35s.
More renters are low-income, liquidity constrained and hit by the downturn than in previous economic downturns
A pandemic related increase in housing stress among renters is likely.
Over the past 25 years, lower income households have become concentrated in rental markets, while rental prices have risen considerably.
The disproportionate effect of the current crisis on vulnerable households is likely to lead to a higher conversion between income disruption and housing stress than in previous downturns.
Households were highly leveraged coming into COVID-19 compared to previous downturns
Borrowing costs have fallen steadily over the last ten years (Figure 1), which has allowed the average new owner-occupier to take on more debt (Figure 2).
This has led to a rapid increase in housing prices during a period of weak income growth.
While housing prices rose by 90% between January 2005 and March 2020, average weekly earnings only rose 65% between November 2004 and November 2019 (latest data).
The average household now has debt of about $1.95 for every dollar of household disposable income.
This is up 36% from approximately $1.40 in 2005.
By international standards, Australia’s debt to income ratio is very high.
While the average owner-occupier debt more than doubled between 2005 and the end of 2019, the average share of gross income spent on servicing a mortgage was lower at the end of 2019 than it was in 2005 (Figure 3).
Many borrowers are in precarious financial positions
Before COVID-19, many households were not in a strong position with regards to their mortgages.
Approximately 24% of mortgages in Australia have less than three months’ prepayments saved, and a further 19% are new or structured to discourage prepayments (eg fixed rate loans, which don’t allow prepayments).
Although home loan arrears rates in Australia were low by international standards before COVID-19, there is an elevated risk of arrears in the current environment.
RBA research suggests that for every 1 percentage point increase in the unemployment rate, there is an 0.8ppt increase in arrears.
ANZ Research expects that the unemployment rate will rise from its pre-COVID rate of 5.1% to a peak of 7.5% in Q4 2020 and will average 6.9% in 2021.
By mid-May this year, ANZ had received requests for assistance on approximately 110,000 home loan accounts.
It should be said, however, that some of these requests reflected precautionary behaviour rather than immediate need.
Mark Hand, ANZ’s group executive of Australia retail and commercial, commented in June that about a third of mortgage accounts with loan deferrals are now making payments, and around 5% of loan deferral customers are making full payments.
Borrowing costs are unlikely to decline further to support households
When an economic downturn occurs, a change in the cash rate can lower interest payments for borrowers.
At the onset of COVID-19, the RBA reduced rates to their effective lower bound of 0.25%.
The downside of Australia’s low interest rates is that monetary policy cannot further lower housing payments, as it has in previous downturns.
Unlike those who borrowed for a home at higher interest rates, newer borrowers will have little flexibility in their interest rates over the life of their loan.
This puts more stress on recent home buyers (and recent re-financers), who are leveraged based on current very low interest rates.
This may not be an immediate problem, as higher income households have taken on most of the extra debt, and the share of household income spent on interest payments has, on average, fallen.
But pandemic related income disruption may create pockets of housing stress.
And the low wage growth expected for the foreseeable future is likely to also limit the ability of borrowers to reduce their payments as a share of their income.
Increase in debt in recent years was mostly concentrated in higher income earners
Between 2006 and 2018, increases in owner-occupier housing debt were concentrated in higher income households.
The share of households with housing debt within the bottom 40% of income earning households fell from 15.7% in 2006 to 14.3% in 2018.
The share of higher income households (top 40%) with housing debt rose from 54.7% to 55.4% in that period.
The average owner-occupier housing debt in the bottom 40% of income earning households increased by 28% between 2006 and 2018, but has only increased by 6% since 2010.
The average owner-occupier housing debt in the top 40% of income earning households increased by 41% between 2006 and 2018.
The middle quintile of households had the biggest increase in median housing debt in that time (74%).
Because higher income households have taken on much of the extra household debt between 2006 and 2018, the general risk of adverse outcomes as a result of income disruptions is lower.
However, for some higher income households, a pandemic related income or employment disruption may lead to housing stress and other adverse financial outcomes.
Older people carrying more housing debt, but less likely to lose jobs
Between 2006 and 2018, the share of households with owner-occupier housing debt fell for people under 35 but rose for people over 44.
Average housing debt rose between 2006 and 2018 for every age bracket, but was particularly high for those aged 35 and over.
The median home loan for people aged 35 to 44 grew by 78%, and for those aged 45 to 54 it grew 80%.
That shift in owner-occupier debt towards older residents lessens the risk of crisisrelated housing stress, since the bulk of pandemic-related job losses have impacted workers under 35 (Figure 12).
However, the growth in median owner-occupier debt among people under 35 still poses risks.
While the proportion of youth households (15-24) with debt has fallen from 20% in 2006 versus 9% in 2018, the average housing debt for an indebted 15– 24-year-old’s household has grown by 60%.
This suggests that the much higher rate of job losses for this age group could lead to pockets of housing stress.
People aged 25-34 were also less likely to have housing debt in 2018 compared with 2006, but had higher median owner-occupier housing debt and an above-average rate of job losses.
Over half of renters and borrowers have less than six months’ savings
Renters are less likely to have significant savings than home owners, and are more likely to experience financial stress.
In an RBA survey in 2018, it was shown that over 60% of renters had less than three months’ liquidity (ie savings in a bank account, cash investments, equity investments), while almost 40% of indebted homeowners had less than three months’ savings.
The share of gross household income dedicated to rent payments in Australia was 28.5% in June 2019, with capital city rents accounting for 27.8% of gross income, and regional rents accounting for 30.3% of gross income.
Low income households are increasingly under rental stress
The composition of renters has gradually moved towards lower income households.
Between 1994 and 1996, 34% of private renter households were in the bottom 40% of income earning households (based on equalised income deciles).
This increased to 38% between 2015 and 2018. At the same time, the price of rental properties has increased substantially, particularly in capital cities, increasing the incidence of rental housing stress (spending 30%+ of income on rent).
The proportion of low income households in rental stress rose from 35% in 2007-08 to 43% in 2017-18.
Most of that rise was in capital cities, where the proportion of low income households under rental stress rose from 38% in 2007-08 to 48% in 2017-18.
Recipients of Commonwealth Rental Assistance are often in rental stress.
Without the assistance, 68% of recipients would have been in rental stress; but 40% were still in rental stress even with the assistance and, as with the total population of low income households, most of those lived in capital cities.
COVID-19 is hitting rental households and vulnerable households hard
While the life-saving pandemic shutdowns have put downward pressure on rents, renters have also become more likely to experience income disruption.
For example, over the lockdowns of 15 March to 30 May 2020, the share of jobs lost in hospitality was 25.4%; and almost 40% of hospitality workers are renters.
Key industries hit hardest by shutdowns are also more likely to include liquidity-constrained workers.
Housing costs have risen for both workers and benefit recipients
Housing costs for employee households and government transfer households have both risen around 58% since 2008, outpacing average weekly earnings (44%) and transfer income growth.
So the share of either source of income that is spent on housing has risen.
While those on unemployment benefits are currently receiving a JobSeeker Coronavirus supplement of $550 per fortnight, this is set to expire in September.
The end of fiscal support to households, including JobKeeper and JobSeeker, will increase the likelihood of lower income households and government benefit recipients falling into, or magnifying existing, housing and financial stress.
The government is conscious of this issue and in our view seems likely to lift the base JobSeeker payment and extend the JobKeeper payment in some limited form.
But it seems inevitable, given the size of crisis-related income shocks, that more households will face a period of rental stress.