Background Notes for Opening Remarks to Inquiry into Housing Affordability in Australia 2. Affordability

The standard measures of housing affordability essentially try to measure housing loan repayments relative to household income. There are various measures in existence. The one shown in Chart 5 is calculated by the Reserve Bank. It measures the proportion of average household disposable income needed to cover repayments on a median-priced house (assuming a 20 per cent deposit and a 25-year loan). The broad picture is that this ratio is now much higher than it was in the mid 1990s, and only a little below what it was in the late 1980s.

There are three factors that drive changes in this measure: house prices; household incomes; and interest rates. Chart 6 shows how these factors have changed in recent years.

The top panel of the graph shows the ratio of median house prices to average annual household income. In the mid 1990s, house prices were around 3 times average annual income; by the end of the housing boom in late 2003, this ratio had risen to about 6. It then declined for a couple of years, as house prices stabilised while incomes grew, but more recently house prices have been rising at least as fast as incomes.

Mortgage interest rates are plotted in the bottom panel. They have shown a couple of cycles over the period shown in the chart, rising in the late 1990s and again in recent years, but these cycles have taken place around a flat trend. Mortgage interest rates today are much the same as they were around 1996–1997.

We are therefore left with the conclusion that the decline in measures of housing affordability since the mid 1990s is almost entirely due to the rise in house prices relative to incomes.