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The RBA's warning on Australia's apartment boom

Photo by Ryan Pierse/Getty Images

“Building up” has been the long-discussed solution for the challenge of housing supply in Australia’s major cities.

All anyone has to do is look at the dozens of cranes scattered across skylines in Sydney, Melbourne, and Brisbane to see this is now a reality.

The statistics show Australian high rise residential building approvals have been going gangbusters. Many commentators have been wondering if the construction sector has been going too hard, too fast.

For context, this chart shows the rolling annual total for high rise residential building approvals in New South Wales, Victoria and Queensland.

The splurge in new high rise developments has caught the attention of the RBA, and not just because the effects on the skyline are too hard to miss.

In its financial stability report out today, the bank says the high rise construction boom, primarily led by increased investor activity and foreign buyers, “could lead to an excessive increase in construction activity and future supply overhang.”

“Some geographic areas appear to be reaching that point, particularly the inner-city areas of Melbourne and Brisbane” the bank notes. It continues:

Apartment approvals remain at very high levels in these areas, even though these rental markets already look soft; apartment prices have been little changed in the past year, rental vacancy rates are relatively high and growth in rents is subdued.

From a central bank, this is not throwaway commentary.

The chart below shows the annual growth rate in residential building approvals in the CBD and inner city regions of Sydney, Melbourne and Brisbane, the three largest housing markets in Australia.

And this chart tracks inner city unit prices in the three cities. Note the sharp deceleration in price growth in Melbourne and Brisbane seen over the past 12 months. Sydney is the exception, with inner city unit prices continuing to accelerate. As it also reveals, rates of rental growth in all three cities continue to trend lower.

Understandably, given recent trends and the strong residential investment pipeline still yet to begin construction, the RBA is concerned.

“The risk of a downturn in apartment markets is greatest in the inner-city regions of Melbourne and Brisbane, which look susceptible to potential oversupply,” the bank notes.

“While investor demand appears strong at present, including from foreign investors, apartment markets in these areas already look soft, and future tenant demand, including from international students, is uncertain.”

Given recent announcements made by APRA to cool lending growth to property investors, the still large residential construction pipeline to come and slowing population growth, it’s understandable why prices concerns are heightened at present, and not just from the RBA.

Price growth is already slowing for inner city apartments in Melbourne and Brisbane, and there are signs that activity in the Sydney property market is beginning to slow after two years of breakneck activity. Supply and demand in all three regions appears to be nearing equilibrium, with significant more supply scheduled to come. It’s clear that downside risks to prices are building.

“If prices were to fall significantly in these areas due to oversupply, the main risk to financial stability would be through negative effects on the financial health of residential developers,” says the RBA.

Not only would price declines impact residential property developers but also household consumption as a result of perceived household wealth. Given these are two crucial components in driving Australia’s economic transition away from mining-led economic growth to services and consumption-led growth, developments within these housing markets will be monitored closely.

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