Benje Patterson examines the personal finance ramifications of tying up money in housing

Today's guest Top 10 is by Benje Patterson, a senior economist at Infometrics.

As always, we welcome your additions in the comment stream below or via email to david.chaston@interest.co.nz.

And if you're interested in contributing the occasional Top 10 yourself, contact gareth.vaughan@interest.co.nz.

See all previous Top 10s here.

At the risk of sounding like a bore, I am going to be dealing with the housing market in this Top 10 post.  But instead of lamenting high house prices, or crystal ball gazing for an appropriate time to enter (or exit) the market, this post will focus on the personal finance implications of having so much money tied up in housing.

1. Toiling away for a lifetime just to own a roof

A good starting point for understanding personal finance is considering the balance sheet of households, and what their obligations (i.e. liabilities) look like. Recent work by Creditsimple.co.nz shows that the average under 55 Aucklander has over $500,000 on their mortgage, with those under 55 in Hamilton, Tauranga, Wellington and Christchurch all having mortgages of $300,000 to $400,000. These are big numbers and the situation is even grimmer when you consider how much of one’s lifetime income buying a house now soaks up. Infometrics Chief Forecaster, Gareth Kiernan, sums things up pretty well in an interview with Fairfax’s Susan Edmunds:

“Kiernan said someone on the average income who bought an average house in 1974 would have paid 3.61 years' worth of their 1974-level income in mortgage payments over 25 years, and have been left with an asset worth 3.76 years' of income once the mortgage was paid off in 1999.

Someone who bought in 1991 would have paid 3.77 years of income over the term of their mortgage, and had a property worth 6.36 years' of income in 2016.”

2. House price falls would see Baby Boomers tighten their belts in retirement

A few weeks back I attended a talk by financial advisor Martin Hawes on personal finance and retirement.  Martin is one of New Zealand’s leading authorities on personal finance and is a staunch advocate of the 4% rule for drawing down capital in retirement.  The rule essentially says that you can spend 4% of what you have each year in retirement and your money will last as long as you do.  But a key issue with having so much of New Zealanders’ wealth tied up in their homes is that any potential declines would reduce the amount of loot that Baby Boomers have to spend in retirement. Even a 10% decline in Auckland house prices (which is within the realms of some forecasts) would reduce retirees’ capacity to spend by about $100 per week using the 4% rule!

“This is a rule of thumb that says that when you to start to use your investments for income in retirement, you can draw and spend 4% of the capital in the first year of retirement and continue to draw that amount in real (inflation adjusted) terms for the following 30 years.

That means that if inflation is 2% and you have $500,000 invested, you are able to take $20,000 in the first year, $20,400 in the second year, $20,808 in the third year and so on.”

3. Rising mortgage rates make getting ahead even harder

The wife and I are currently building our first home and so mortgage rates have been on my mind a little more than usual recently (that’s saying a lot for an economist!).  Back when our build was due to get underway in the final few months of 2016, I could have locked in tranches of our loan for 4-5 years at less than 5%, but now I am staring down the barrel of 4-5 year fixed rates that are around 75 basis points higher.  Bloody builders being so busy that we were delayed! That might not sound like a lot, but it is equivalent to 15% higher interest rate expenses! Taking on floating mortgages or shorter-term fixed rates could save some money, but even those are on the way up:

“Whether it is worth fixing for longer may depend on where you think interest rates will go.

Infometrics expects floating rates to be 5.78 % next March and 6.28% the following year. For two-year terms, they expected 5.3% next March and 5.74% in 2019, and for five-year terms, 6.46% next March and 6.85% in 2019.

Mundy said the official cash rate was likely to stay on hold until late next year and short-term fixed rates were unlikely to drop any further this year. Extra costs the banks were facing in getting funding could mean some modest pressure on short-term rates to rise, she said.

Over the longer terms, increases were likely to be more pronounced.”

4. Higher interest rates hurt new borrowers the most

The cost of higher interest rates will be borne most heavily by first-home buyers.  Those making their first forays into home ownership are more vulnerable to changes in mortgage rates because they typically have to finance a larger proportion of their purchase.  The RBNZ worried about these vulnerabilities in its most recent Financial Stability Report:

“Many borrowers are estimated to be vulnerable to higher mortgage rates (figure A2). It is estimated that around 4% of all borrowers, representing 6% of the overall stock of mortgage debt, and 5% of recent borrowers, representing 9% of recent mortgage debt, could not meet their essential expenses (‘severe stress’) if mortgage rates were 7%. A further 2% of all borrowers and 7% of recent borrowers would only have a small buffer for discretionary spending after meeting their mortgage payments and essential expenses (‘mild stress’). Stress would be much higher at a 9% mortgage rate, with 7% of all borrowers and 18 percent of recent borrowers expected to face severe stress.”

5. Simplicity is key to better personal finance

The fastest path to improved personal wealth for many is not to ask your boss for a raise – instead your best option is to re-evaluate your spending patterns.  I am not about to open smashed avocado-gate here, but I do want to take a message from that train of thought. The message being that if your life is stripped back to fewer moving parts, and you crave simplicity, then you can juice up your savings budget and accumulate wealth more quickly.  Richard Meadows may take things to the extreme and sit further down the continuum on this front than many are comfortable with, but his message is on the money:

“Changing money habits takes some elbow grease at first, but once they’re locked in it’s all gravy. The bigger challenge might be dealing with the expectations of other people.

It’s tough to explain to your mates that you don’t want to do Expensive Thing XYZ – not because you’re a fun-hating scrooge, but because you have different goals and priorities to them.

Those who are most judgemental are usually the same alleged “adults” who are constantly broke and borrowing money from their mums, despite earning good salaries and having no responsibilities.

...Life is all about trade-offs. Frugal people choose to accept fewer possessions and luxuries in exchange for more freedom and time.”

6. No keeping up with the Joneses

Part and parcel of craving simplicity to get ahead with your personal finances is not falling into the trap of copying what your mates are doing.  Keeping up with the Joneses is a sure-fire way to make dumb spending decisions that come back to bite you in the bum.  Social media doesn’t help people with those temptations and Millennials are most at risk of being influenced to purchase based on what they see their mates enjoying via social media. A 2015 study by Deloitte showed that:

“Forty-seven percent of all Millennial consumers use social media during their shopping journey, compared to 19 percent of non-Millennials. Similarly, 37% of Millennial consumers spend more due to their use of digital, versus only 23% of non-Millennials.”

7. Buying used is better for your wallet and the environment

Being of Scottish lineage, I have always had an eye for a bargain and am a keen advocate for buying second-hand.  Not only is buying something pre-loved better for your wallet, it also can help reduce the impact we are having on the environment.  Until recently my purchases would all come from Trade Me auctions or visits to second-hand stores, but I have recently cottoned on to the large number of locally-based trading groups on Facebook. Most towns have them - for example, Queenstown Trading’s closed group has 26,700 odd members in an area with fewer permanent residents.  This reach has even afforded the owners of the group the opportunity to also sell advertising spots:

“Queenstown Trading continues to grow steadily by a 500 members a month minimum. It is the only community focused advertising space in which its consumers are linked in personally as members. This allows a focused audience of locals to view items posts and advertise specific and visually to the Queenstown region.”

8. Generate income from your existing assets

A home is the biggest asset that most New Zealanders own and, typically, they don’t earn a dime from it.  From a personal finance perspective, this seems like a lot of dead capital that could be put to better use.  But thankfully, the sharing economy has arrived and could help you earn a quick buck.  Private accommodation provision through Airbnb (or other providers) is also an efficient way for New Zealand to help manage peak load in the tourism sector.

“Solely putting focus on constructing hotels is not necessarily the most efficient way to accommodate visitors. After all, hotels are an extremely capital intensive investment, and apart from peak summer months, have relatively low occupancy the rest of the year.

Private accommodation, on the other hand, makes use of an accommodation resource that is already there, but is simply underutilised. By matching this underutilised housing, with paying guests, P2P accommodation providers are allowing New Zealand to leverage up its housing return and more efficiently make use of capital.”

9. Teach kids about money!

A few years ago, I penned an article for the Dominion Post lamenting the lack of proper financial literacy requirements in the New Zealand Curriculum.  Rather divisively I argued that a lack of financial education was a contributor to some people losing all their savings following the widespread collapse of New Zealand finance companies.

“When finance companies began collapsing, many everyday New Zealanders were burnt. Even though these companies were only paying a per cent or two more than a bank deposit, many investors were seduced by slick marketing and their own greed into investing in highly risky products which they knew little about.

This lack of knowledge stemmed from both investor naivety and the dearth of easily digestible information about the investment products.

In retrospect, it was a bad decision to invest in any of these finance companies. However, one poor investment decision should not ruin an investor. If an investor had properly diversified their portfolio across different asset classes and sectors, the collapse of the finance company sector would have been a temporary blow, rather than a king hit.”

10. We don’t know how lucky we are

At the risk of getting a bit clichéd, it is important to put the challenges I have raised in this Top 10 into perspective. There are many people who struggle in New Zealand and policy settings must continue striving to improve the fortunes of all New Zealanders, but at the end of the day we are generally a bloody lucky bunch of people. And that’s not just me saying it. The Legatum Institute has found, across a panel of indicators, that New Zealand is the most prosperous country in the world:

“New Zealand has ranked first in the Prosperity Index for six of the last 10 years. Bar a small prosperity drop as a result of the 2008 global financial crisis and the immediate impact of the Canterbury Earthquakes, New Zealand’s prosperity has been on an upward trend, particularly since 2012.

This rise has been driven by concerted efforts by policymakers, especially in economic and health policy. New Zealand’s Business Environment performance has seen it rise nine ranks to 2nd, and in Health it has risen eight ranks to 12th.

Underlying strengths include Economic Quality, particularly free and open markets, where New Zealand ranks 1st, Governance (2nd), Personal Freedom (3rd), and Social Capital (1st).”

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

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20 Comments

The National Party should use that Legatum Institute blurb as their main campaign endorsement.

I love that photo of the Kiwis at the bottom. Looks like the Auckland Uni students got their European Club off the ground after all and are doing their much anticipated Braveheart role play session. Freedom! let's hope Susan Devoy doesn't catch sight of it.

The other day I wrote about the Zeitgeist and voilà! what do I see here? It's as if Zachary Smith works for the Legatum Institute. Onwards and upwards my friends:

The Commonwealth Effect

Across the world, the Index captures a notable "Commonwealth Effect". The Commonwealth delivers greater prosperity, and greater prosperity given its wealth, than the global average.

This additional prosperity comes primarily from the Business Environment, Governance, Personal Freedom, and Social Capital sub-indices. On the delivery of prosperity, together the Commonwealth outperforms the world average in all but one sub-index.

This Commonwealth Effect transcends wealth. We see the developed Commonwealth "Anglosphere" bloc of New Zealand, Australia, Canada, and the United Kingdom deliver greater prosperity than any comparable bloc, including the Nordic area and Western Europe. In Africa, Commonwealth members together outperform the Sub-Saharan average in every sub-index.

What also transcends wealth is the root of this Commonwealth Effect. Whether in Africa or Australia, the pattern is the same. This additional prosperity comes from freer markets (reflected in a more competitive business environment and certain indicators of governance), freer peoples with greater opportunity, and most importantly, stronger civil society.

As National works to change the culture of New Zealand we can likely look forward to this reducing.

I know where you are coming from Rick but I fear your are struggling against an irresistible Force. We need to use the Force and turn its power back on itself to our advantage. This Legatum report is truly an endorsement of our culture and our language, for what else is the "AngloSphere" but a common language and culture proven to be capable of great things? Language and culture shapes consciousness. Throughout the entire world modernisation and development basically means becoming more like the AngloSphere. This is the next stage of the Empire. Come over to our side Luke Rick.

Zach, are you suggesting that diluting the anglosphere actually strengthens it?

Cultural homeopathy, as it were.

(Am not kicking against the goads, just discussing what makes up this anglosphere. is it self-sustaining without integration?)

RickStrauss, Just a few thoughts. It's a big question!
I'm not entirely sure what you mean by integration. I assume you don't mean assimilation but rather a melding of cultures and languages. I am hoping that we wont see that happen on a large scale and what we will see is an evolution of AngloSphere language and culture that integrates only little bits of the new cultures. Much like we see a koru on a tail fin or the use of a few words or the establishment of a Chinatown (Hmm, even Chinese don't want that). The English language has always adopted words that are useful and descriptive, our culture also readily adopts new foods and fashions however these things are minor. The AngloSphere may well have been stronger if it had resisted Globalisation however this would have been almost impossible to do especially with a declining population. Reversing that would have required unacceptable and dangerous policies that would inevitably have led to another global war. The most likely outcome is that all things will succeed on their merits and the people will follow the winning trend. The children of the immigrants will tend to reject their historical cultures as a valid lifestyle but their annual celebrations will be retained to add local colour. We see this happening in their own countries already and the almost wholesale adoption of Western European, particularly Anglo, style. Just watch a Chinese TV show and you will note that almost everything is Westernised if set in the modern day. A polo shirt is practical, a high heeled shoe better than a bound foot, a BMW better than a rickshaw and nobody is going to be seen dead with a cue nowadays.

A lot of effort is going into artificially promoting things that have little merit and suppressing things that have great merit. I would say this is where the greatest immediate challenge lies. We must all gently but firmly resist the dark forces of human stupidity and hidden agendas that seek to divert evolution's natural course of trending toward the beautiful, the sublime and the successful. However those forces may be necessary in order to have something to strive against. We probably cannot change the Zeitgeist anyway. With the advent of computers, robotics, artificial intelligence and the Internet it will be very difficult to stop nature's course. I think a robot, if asked, would crunch the numbers and choose the AngloSphere as a logical model for humans to follow currently. Politicians and interest groups will try to introduce repressive laws that suppress people's freedoms like the ability to mock anything or believe something and everyone must resist this at all costs even to the point of defending things even if they don't personally agree with them. This last point is almost a foundational tenet of the AngloSphere.
That said, the evolutionary development of civilization must proceed without too much conscious thought. We will only stuff it up otherwise.

Lots of interesting points, the sorts of stuff that fascinate me. Generally agree...and that's what I wonder about with cultural homeopathy, integration/assimilation et al. I.e. if National were to (should they in their eagerness somehow find a way to) pick up a city of 500,000 people from a highly corrupt society and put them all down together in a suburb of Auckland, would the culture of this suburb resemble the AngloSphere, or would it resemble that of the place of origin? Looked at in such a way, surely maintaining what's good about a culture depends on volumes within which some level of assimilation can occur...otherwise, noone will come over to your Dark Side, will they?

Obviously, like corporate acquisitions - your best results will be found in taking what's good from both the acquirer and the acquisition and moving forward with these, while discarding what's not so good.

We probably cannot change the Zeitgeist anyway. With the advent of computers, robotics, artificial intelligence and the Internet it will be very difficult to stop nature's course. I think a robot, if asked, would crunch the numbers and choose the AngloSphere as a logical model for humans to follow currently.

Reminds me of Iain M Banks' Culture novels, wherein the benevolent AI takes responsibility for leading humanity and shapes the Zeitgeist. Perhaps we're seeing the onset of such things in the ability of Fake News to shape culture and behaviours through social networks. It's the stories we tell, the examples we celebrate...In the end, not only will AI likely make better CEOs, but they'll also be able to shape a company or country's culture more effectively through the use of stories.

At the moment, I find history from the 1850s to 1950s quite fascinating. It's amazing how many conversations we're having over again. Re ideas such as changing the Zeitgeist, books like War and Peace, or The American Axis are fascinating.

We live in very interesting times. And yes I think we both agree that too many too soon represents a major threat to Western civilization. This should be relatively easy to control though. My theory was that nature would take its course and high property prices would regulate immigration flow which is why I don't particularly want to fix that problem * and still have a relatively open border.
*added.

The rapid growth and demographic changes occurring in Auckland appear to be continuing and even gaining momentum despite the high prices though Zac. The usual cycle of home ownership and residents with an actual stake in their community is broken. The garage dwellers are becoming more common than the regular family in their own home so what you have is a rapidly declining social cohesion. That's difficult to foster in a large city anyway but with an almost worlds highest proportion of foreign born Auckland is in danger of tipping into a very different place: islands of wealth surrounded by a sea of disconnected renters. A sort of Los Angeles of the South.The connections between people and their roots to earlier generations is collapsing.
Have you ever lived in a community where those links are strong, where people are enthused about improving their town and happy to volunteer their time and money to their fellow residents and civic improvements. I know of many long term residents of Auckland that no longer see it as a place they want to devote themselves to, some call it Mumbai and are looking to get out, some are trapped but either way their commitment is weakening or broken.

You are so right

Pity is, it has all been written before - still it continues - nothing changes

Does the current Auckland society, as it exists right now, have a built-in self-correcting mechanism? I doubt it, can't see it.

The fabric of Auckland society as I knew it has been destroyed in less than one generation and it isn't coming back

Thanks, John Key and Bill English.

Nobody is going to be seen dead with a 'cue' nowadays. I hadn't realised that the Chinese had been devotees of the snooker table. I rather think you were actually referring to the ponytail that many Chinese used to sport and that is a queue.
Your knowledge of the processes of evolution is equally sketchy. I would refer you to Climbing Mount Improbable by Richard Dawkins,but then I remember that you are a supporter of the Alt-Right,so probably don't believe in evolution at all.

linklater01 FYI:

The queue or cue is a hairstyle most often worn by men. - Wikipedia

HaHa! smartypants! I was reading Dawkins before you had even retired. Actually Dawkins has fallen out of favour a bit due to his ridiculously militant atheism and unnecessarily upsetting devout Christians. He did create the word "meme" though for which he should be thanked.

Post-bubble behavior. In Japan, secondhand retail now accounts for 4.36 percent of Japan's total retail market. (For luxury brands, secondhand accounts for more than 10 percent of the market.).

https://www.bloomberg.com/view/articles/2017-07-03/used-goods-might-be-t...

Benje Patterson links to the Legatum Institute's summary of NZ being first on the list but it is worth reading the special report on NZ too:

Free markets, free people, strong society: New Zealand and delivering prosperity the Anglosphere way

I wonder if it is possible to make a country successful by following a successful model like New Zealand? As I have controversially noted before I believe an important prerequisite would be to make English the official language in order for the population to truly comprehend and understand what freedom is all about. It's not necessarily essential just the simplest way, a life hack for countries as it were.
We see the success of this approach in the countries of the Caribbean. Most of the islands that were seized by the British Crown and absorbed into the Empire are now on the list of high-income economies. Truly the arrival of a British battle fleet was the best thing to happen to these places relative to what else could have happened to them.

All the Legatum articles are peppered with the word "free" or "freedom" and indeed this is a great and remarkable achievement of the Anglosphere countries. It should be noted that this means I am able to articulate an opinion, such as the one I am doing now, without fear of consequences. In NZ the ultra-Right can live with the ultra-Left and those in the middle and this is something I am dedicated to maintaining as there is a concerted effort to de-legitimize, even criminalize and violently oppose some political ideas in the West. We can not allow that to happen if we wish to preserve our freedom and our prosperity. We must forever be on the lookout for politicians and officials who wish to take away our freedoms or enforce things on us - TOP, Auckland Uni, Susan Devoy and others, I'm looking at you.

"there is a concerted effort to de-legitimize, even criminalize and violently oppose some political ideas" Absolutely agree Zac.
From the Enlightenment to post Newton scientific method to modern liberal ideology the abiding principle is a free and frank, objective discussion of ideas. There is a trend to set some ideology, thinking, beliefs and religion beyond discussion. I read the Guardian most days, very much in the left/liberal camp and quite illustrative of this sort of censorship. Discussion on certain subjects is simply disabled. Now the last thing you want is hateful, racist poison but to ban discussion of what is essentialy thoughts and chosen beliefs and behaviour is an incredibly dangerous precedent. I have been banned from commenting for blasphemy (seriously!); the mental and moral contortions necessary to justify the ban from a modern liberal perspective were extraordinary.

"From the Enlightenment to post Newton scientific method to modern liberal ideology the abiding principle"

Strewth

U2 - try running that load of elitist BS nonsense past your garage-dwellers upthread

Ask them about their freedoms and let Zachariah write an epistle about that and their insights

Good, down to earth, comment two otherguys. You're right, elitist BS nonsense isn't going to get us anywhere. Given me something to think about.
Not criticizing David George either - up-voted both comments.

Want to know what's happening to your civilisation; perhaps this chap says it better. The rest of this series is well worth a listen.
https://www.youtube.com/watch?v=lyLUIXWnrC0

I must comment on something else about this article by Benje because I feel bad about possibly being seen as hijacking the thread although the Legatum Institute analysis is in the article so I don't feel too bad.

First I love the pictures and cartoons which I feel Interest.co doesn't have enough of. The two meme type images especially as many people (Boomers) may not be aware of the meme phenomenon.

Secondly the advice to buy second hand I think should mention quality. Quality is something we should look out for as it is often (not always) more cost efficient. For example pay a bit more for socks or stock up when you see a good sale of quality socks. Think ahead, think quite a long way ahead. Be careful though as I have noticed a recent trend to make things look like quality but they actually aren't.

Stick to classic styles. A couple of years ago my daughters insisted on Dr Marten shoes to wear as part of their uniform. These shoes are about three times the price of a standard school shoe. My wife was opposed but because of the illustrious history of the Dr Marten shoe, originally made by a doctor in the Wehrmacht from surplus Luftwaffe rubber and then produced by a fine British boot maker, I was attracted. These shoes still look good as new two years later. I actually bought myself a pair as they make a great work shoe and I can honestly say that I have been complimented on them and had discussions about them more than any other shoe I have owned. The other day I was trying on some sneakers and the sales assistant exclaimed, "Wow, rocking your Docs, awesome!".

Secondhand cars and houses of good quality are stating the obvious as good buys in my opinion. I would be reluctant to buy a new house personally. I would steer clear of second hand computers. These should be bought new unless you are very poor. Avoid very cheap ones for kids and you can't go wrong with Apple laptops. Like Docs they are quality and last and last and consistently deliver the goods. The initial painful purchase cost is soon forgotten but they are a joy to use every day.