Will property prices fall by 10% because of higher unemployment thanks to COVID-19

CBA Economics stated last week that property price declines are “inevitable”. It has forecast that prices will fall by circa 10% in Melbourne and Sydney over the next 6 months. It cited many reasons for this forecast including higher unemployment, lower economic activity, lower mortgage volumes, falling rents and fewer overseas buyers.I wanted to take some time to look at this forecast and provide my commentary. This exercise serves as reminder that all forecasts are inherently uncertain and tend to have limited application for investment decisions.Relationship with unemployment and property growthSimple logic would suggest that if less people are employed, fewer people will be able to purchase a property and some may need to sell their properties. As such, if demand for property falls, prices may follow. That’s the basic laws of supply and demand.However, the chart below doesn’t support this hypothesise. We should see the green line (average house price growth for subsequent 3-year period) increase when the blue line (unemployment) falls. That is not always the case. In fact, the data suggests there’s a very weak relationship between property growth and unemployment.CWhat happened during the last recession?Let’s look at Australia’s last recession as an example (i.e. the “recession we had to have”). Between 1990 and 1992, unemployment rose from 5.85% to 11.2%. During this period, the subsequent rolling 3-year annual property growth ranged between 1.1% p.a. and 3.4% p.a. Inflation was circa 1.5% p.a. during this period, so in real terms, property prices were flat.What happened was there was very strong price growth between 1985 and 1988 (i.e. over 20% p.a.) and property prices started falling from early 1989. Unemployment started to rise in early 1990. Therefore, property price falls actually proceeded a rise in unemployment, not the other way around.Why might there be a weak link between unemployment and price growth?I can’t offer a definitive answer, of course. But I think a large part of the answer lies in two factors being (1) the fact we all need somewhere to live and (2) the housing market is close to equilibrium in terms of demand and supply i.e. most Australian’s have somewhere to live.For there to be large falls in prices, there needs to be more sellers than buyers i.e. mass selling. That can happen in the share market (and other asset classes) with limited practical consequences. However, that is more difficult to do with property, because we all need somewhere to live. Of course, investors and holiday homeowners have the discretion to sell, but in the main, these people tend to have a stronger financial position than the average Australian.And the average unemployment period will likely be shortThe important distinction that makes this situation unique is this current recession was caused by a contraction in supply, not a fall in demand. Normally, an economic slowdown is caused by a fall in consumer spending (demand for goods and services) and that can take longer to recover. Today, most consumers are happy to spend (a visit to Bunnings will prove that). It’s just we are not allowed to venture outside our homes to do so (and otherwise viable businesses have been forced to cease trading). Once restrictions have been lifted, demand will likely return at a faster rate compared to a demand-driven recession.Westpac projects that unemployment will peak at 9% this year but reduce to 5.6% by the end of 2021 (i.e. only slightly above what it was at the beginning oMy new book is available for pre-order now: Pre-ordering the book will help me get it into bookstores. So please do me a favour - please consider pre-ordering now - links and pre-order bonus are available here: https://prosolution.com.au/book-preorder-bonus Do you have a question for the podcast? Email us at [email protected]. If you're interested in working with our team and me, discover how we can work together here: https://prosolution.com.au/family-office-servicesIf this episode resonated with you, please leave a rating on your favourite podcast platform. Subscribe to my weekly blog: https://prosolution.com.au/stay-connected IMPORTANT: This podcast provides general information about finance, taxes, and credit. This means that the content does not consider your specific objectives, financial situation, or needs. It is crucial for you to assess whether the information is suitable for your circumstances before taking any actions based on it. If you find yourself uncertain about the relevance or your specific needs, it is advisable to seek advice from a licensed and trustworthy professional.