A New Lens on Housing Affordability and Market Behaviour Australia
Introduction:
This study was designed to explore the viability of an alternative method of measuring housing affordability (the residual income method) to that of the ubiquitous 30 per cent benchmark method and to use this alternative method for enriching understanding around a range of affordability and housing market issues. The work has been exploratory but it does reveal both the potential and the limitations of the method. This Final Report was preceded by a Positioning Paper which reviews the national and international literature on measuring housing affordability and outlines the methodology and assumptions behind the residual income method. Put simply, the residual income method calculates how much is left over for housing rents or mortgage after relevant expenditure items for different household types have been taken into account. If there is insufficient left for rents and mortgages after meeting this budget standard, a household has an affordability problem.
The basis for formulating such a measure for Australia was enabled by the development of indicative budget standards by the Social Policy Research Centre (SPRC) at the University of New South Wales. They established a low cost budget standard (LCBS) and a modest cost budget standard (MCBS); the former might be seen as a minimum level of consumption in contemporary Australia, while the latter allows for a comfortable but far from luxurious lifestyle. Both have been used in this study, but with most emphasis on the LCBS, and have been indexed to relevant years by a composite index of the CPI minus housing component and of disposable Income.
What Is The Residual Income Method?:
Australia has almost become immune to stories about the scale of the housing affordability problem. A considerable amount of research shows that mortgage stress for lower income households has increased over the last decade and that the absolute numbers and percentages involved are high. Using the 30/40 rule, Yates and Gabriel found 49 per cent of purchasers were in housing stress, while the National Centre for Social and Economic Modelling (NATSEM) suggests around 35 per cent on the same criteria. Among renters, the figures are even more startling with Yates and Gabriel finding that 65 per cent of all renter households were in housing stress and in fact accounted for 51 per cent of all low to moderate income households with an affordability problem.
The Policy Environment:
The large AHURI affordability study concluded that there were major weaknesses and limitations in current approaches to assisting households to access and maintain affordable housing. While there have been some policy changes since then, they have not been substantive enough or sustained enough to make any real impact on the affordability problem, and in fact the situation has been worsened by continuing escalation of rents and house prices above the rate of growth of household incomes. Yates and Milligan’s conclusion thus still stands.
Measuring the scale of the Housing Affordability problem:
The first research task for the residual income method using the 2007–08 ABS Income and Housing Survey was to compare the aggregate findings with the 30 percent benchmark method (both gross and disposable). Table 4 below reveals that there are differences, but not consistent differences. For the key measure in Australia, that is, for the lowest 40 per cent of income earners, and using the LCBS the latter is higher (33.6%) than the 30/40 disposable income method for all households (23.9%) but lower for private renters (47.7% vs 61.7%). If the MCBS is used, this method is higher for all households other than private renters where it is almost the same as the 30/40 (32.8% vs 27.0%). If a gross 30/40 rule is used, the overall (all households and tenures) percentage is slightly higher again than the LCBS (15.8 vs 14.1%).
Residual Income Modelling: Affordability And Housing Market Dynamics:
This study has complemented previous affordability research by updating or expanding the detail on Australia or by making comparisons with the USA as a form of benchmark. In this section the study changes direction and moves us into new territory in the application of the residual income method, modelling the housing affordability capacity of different household types in different housing markets. We want to know, for example, what a couple with two children on a $60 000 income can afford by way of rental or home purchase after deducting the relevant budget standard, or how does increasing the income from $40 000 to $60 000 for, say, a single person improve their rental or purchasing capacity. This can be achieved by working the residual income method into a model that can:
Provide for a broad range of incomes and household types a measure of capacity to purchase or rent.
Indicate what could be price points for affordable housing development for a wide range of incomes and household types.
Indicate affordability capacity in different housing submarkets.
Conclusion:
While exploratory, the findings in this report suggest the usefulness of the residual income method as a basis for more informed decision-making around housing affordability issues and for more detailed analysis of the implications. The analysis is far from exhaustive and more work needs to be done in extending it to more households and working through in greater detail the implications for market behaviour.
Also Read: Equilibrium Effects of Housing Subsidies: Evidence from a Policy Notch in Colombia