The "houseless" recovery?
Can the New Zealand economy really achieve a sustained recovery without an assist from rising house prices? Recent research suggests that the “housing wealth effect” is not as critical as it might appear.
- We’ve encountered some scepticism about whether the New Zealand economy can grow without a meaningful lift-off in house prices.
- In part, the response is that we already are. Retail spending has consistently risen over the last five quarters, at a time when house prices were effectively flat.
- But it’s not certain that this can be maintained in the face of what are some still-subdued house price expectations for the year ahead.
- The recent economic literature points to a solution. There is growing support for the idea that what we observe as a “housing wealth effect” is actually more of an “income expectations effect”, driving both spending and house prices higher.
- That’s not to rule out a housing wealth channel altogether. But its role may be in amplifying the economic cycle, rather than driving it. We think that we’ve tempered our forecasts accordingly.
In presenting our latest quarterly Economic Overview, the most common piece of feedback has been a degree of scepticism about our view that the New Zealand economy can recover without a meaningful lift-off in house prices. This scepticism is understandable, as it would be something of a break from history. But there is a plausible mechanism for how this could happen, and indeed the evidence suggests that we’re already on that path, though it’s still early days.
What the sceptics have in mind is the “housing wealth effect”, where people tend to be more willing to spend when the value of their houses is rising. That doesn’t necessarily mean that they are using the house as an ATM (and these days, loan-to-value restrictions may limit their ability to do so). Rather, they’re more inclined to spend out of their incomes if they believe that the house is doing the saving for them.
We’ve noted in the past that there has historically been a strong relationship between housing wealth and household spending in New Zealand, and arguably stronger here than in other developed economies. But the relationship doesn’t hold all of the time, and especially not in more recent years, as Covid and the subsequent policy responses have led to significant volatility in both house prices and consumption.
The housing wealth effect is considered to be an important channel of transmission for monetary policy: lowering interest rates drives up house prices, which leads to more household spending, which boosts activity and employment, which ultimately leads to higher inflation (and vice versa). So, the lack of a house price response over the last couple of years, through what appears to be a now-completed easing cycle, is quite unusual.
That doesn’t mean that monetary policy hasn’t been getting traction though. This week we saw that retail sales volumes rose by 0.9% in the December quarter, ahead of the 0.6% increase that we expected. After having consistently fallen through 2022-24, real retail spending has now risen for five straight quarters. Retail spending in dollar terms has actually risen quite strongly since the Covid shock, but the post-Covid inflation surge means that people have been getting much less bang for their buck.
Incidentally, the quarterly retail trade survey has also consistently outstripped the monthly card spending figures over those last five quarters. The implication would be that debit and credit cards have been falling as a share of retail spending, and it’s not at all clear why that would be case. Nor is it clear that it’s even true. In our latest Retail Pulse we reported that spending on Westpac-issued cards was up about 6% on a year ago in January, and other banks who report their card spending figures had similar results. Yet the figures published by Stats NZ were down slightly on a year ago.
It may be that certain payment methods are not being fully captured, such as buy-now-pay-later or prepay cards. The mix of spending by sector provides some support for this: the card share of spending has been steady for supermarkets, while it has been falling rapidly for several years in areas such as clothing and fuel. So, while we value the timeliness of the monthly card spending figures, we may need to put an asterisk against it in terms of coverage.
While the lift in spending to date has been encouraging, can we really be confident that it will carry on without the backing of the housing wealth effect? We’re forecasting just a 4% rise in house prices over 2026, and even that would put us at the higher end of market forecasts. The RBNZ assumed that house prices would be flat for 2026 in its February Monetary Policy Statement.
The more recent economics literature offers a solution. There is growing support for the idea that what we call the housing wealth effect is actually an income-expectations effect. When people expect a rise in their future incomes, they tend to both spend more and to bid house prices higher. The magnitude of the effect on house prices will depend on how responsive the supply side is – historically New Zealand’s housing supply has been fairly unresponsive, but there are signs that this is improving.
The challenge for us is that we can’t directly observe people’s income expectations – so in the past we’ve used house prices as a proxy. That has generally served us well for the purposes of forecasting household spending, without necessarily requiring a causal relationship. That proxy may not serve us as well in the future, if the efforts to improve the responsiveness of the housing supply bear fruit.
All of this is not to say that housing wealth effects don’t exist. But their impact may be in amplifying the economic cycle, rather than being an essential driver of it. We feel that our household spending forecasts have been suitably tempered to match our view on house prices – spending growth of 3-4% over the year ahead is quite achievable in the early stages of a recovery, when the economy still has substantial spare capacity to be used up.
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