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Monthly Economic Indicators

Special Topic: Are household savings on the mend?

House prices more than doubled between 2001 and 2007. Households borrowed heavily against the wealth generated by housing in those years, withdrawing equity from their homes to pay for everything from new cars to overseas trips and restaurant meals. The result was a big rise in household debt. Falling house prices brought an end to that cycle, and households are now reducing their debt (Figure 6). While homeowners may prefer to see strong growth in house prices, it may not be all doom and gloom if, over the years ahead, prices manage to keep pace with inflation.

Households have a long history of dissaving…

The financial crisis has led to a sharpened focus on the risks posed by high debt in both the public and private sector. To date, New Zealand has coped reasonably well; there are many reasons for this but fundamentally it reflects the flexibility afforded by a good starting point – low public debt, credible monetary and fiscal policies and a floating exchange rate. But that does not mean there will be no impacts. Markets are fickle, ignoring, or at least tolerating, the implications of rising debt until something triggers a change in view. In Greece, for example, the state of public finances was not unknown, although there were some significant revelations, but the economic downturn brought a sudden reassessment of risk and intense pressure to address the problems.

In New Zealand, the big rise in debt over the last decade has been in the household sector. Public sector debt has fallen, and for the most part, corporate debt is not problematic. However, there have been a number of failures among highly leveraged finance companies and debt in the agriculture industry has increased sharply.

Figure 6: Household debt and saving
Figure 6: Household debt and saving.
Source: Reserve Bank of New Zealand

The flipside of rising household debt is falling household saving. Households have consistently spent more than they have earned since the early 1990s, but this gap really widened over the last decade as households ramped up their spending. In 2009, the gap between disposable income and spending rose to almost $13 billion, or 14% of household disposable income (Figure 6).

In contrast to households, net business saving and net government saving have generally been positive over the last 20 years, which marks out the household sector as the most likely to benefit from a reduction in debt. Despite their high level of debt, households have generally been able to meet their debt servicing obligations. The number of mortgages in arrears remains low compared to the experience of the early 1990s, and much lower than in many other countries over the last two years. As a result the asset quality of the banking system has remained very high.

Nonetheless, it is doubtful that further large increases in debt over the years to come would be prudent. Household vulnerability to events, such as a fall of income, would continue to climb and, should financial markets have cause to change their exposure to that risk, leave households in a precarious position.

…but that may be changing…

At present, it appears that households are aware of these risks and are acting cautiously. Although consumer confidence has been reasonably high, retail sales have grown only modestly (Figure 7). Stiff competition and significant discounting by retailers have also pushed sales values lower but lifted volumes in the June quarter (see MEI).

Figure 7: High confidence but weak spending
Figure 7: High confidence but weak spending.
Source: Statistics NZ, Westpac McDermott Miller

The slowdown in household borrowing has also seen new house building fall to historically low levels – additions to the housing stock in 2009 were the lowest since at least 1991. However, the fall in borrowing has been even larger than the fall in new investment, resulting in an increase in housing equity. Conceptually, at the aggregate level, the amount of equity withdrawn or injected is the difference between the change in the household sector's total debt secured against the housing stock, and the net spending by the household sector on new housing, renovations, and transfer costs associated with property transactions.

A commonly used measure of this spending is the value of dwelling investment (plus transfer costs such as legal and real estate agent fees). Using this measure, household sector spending on dwelling investment has been greater than the increase in housing-secured credit since 2008 and equity has been injected. In contrast, the surge in borrowing in the mid-2000s led to a withdrawal in equity of over $7 billion in 2007, equivalent to 7% of household disposable income.

Figure 8: Housing equity is increasing
Figure 8: Housing equity is increasing.
Source: Statistics NZ, Treasury

Falls in house prices have likely helped this process, first home buyers do not need to borrow as much to purchase a house (nor have banks been willingly to lend aggressively against house values) and existing homeowners have less equity available to withdraw.

Indicators of current housing market conditions show little sign of an imminent pick up in prices: mortgage approvals, building consents and house sales are all at very low levels. Low turnover in the market has pushed out the time to clear the inventory of unsold homes to 46 weeks, compared to the long-run average of 38 weeks. Given the sluggishness in sales, fewer houses are now coming onto the market. This will tend to balance out the weakness in demand but until it does house prices may ease further over the next few months.

…although we don’t know how long it will last

Fundamentally however, people must have somewhere to live. The population is growing and with the stock of housing expanding only gradually, the number of people per household is rising. Previous rises in occupants per dwelling have been short-lived, and an ageing population would suggest that, over the medium-term at least, household size will continue to trend down.

The labour market has begun to recover and is expected to gradually gain momentum over the next few years, leading to stronger income growth and stronger demand for housing, albeit tempered by interest rate rises. The supply of housing will also grow more quickly, although rigidities in land supply will limit the speed at which this can be done. A lack of finance for developers, who depend heavily on loans from finance companies, may also hamper the responsiveness of supply, putting upward pressure on prices.

For now, the long upward trend in household debt seems to be turning. Changes in the tax mix, effective from October 1, are intended, in part, to promote saving, which will help reinforce the current shift in behaviour. We cannot be sure debt will continue to fall but if it does persist, not only might households feel more financially secure, but it might make room for the export sector to expand and place the overall economy on a more secure footing.

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