HONG KONG (Reuters Breakingviews) - Life Down Under brings its own risks. Australia is enjoying its 26th recession-free year, showing how this flexible economy has made the most of a rising China. Yet an overheating housing market threatens to bring the good times to an abrupt end.
The economy grew by a robust 1.1 percent in the three months to December. Not since 1991 has the country experienced two consecutive quarters of contraction, a remarkable streak for an advanced nation.
Australia has benefited doubly from China. First it was able to sell huge quantities of coal and iron ore to a rapidly industrialising giant. When Chinese growth slowed, and commodity prices came back to earth, the miners, led by giants BHP Billiton and Rio Tinto, tightened their belts. And as the "clean and green" country rebalanced its economy, it found newly wealthy Chinese keen on its food, travel, apartments, and schooling.
Other advantages have helped it keep growing, too. High levels of immigration give Australia a better demographic make-up than many other developed nations; from 2010 to 2015 it took in an average of 205,000 migrants a year, United Nations figures show. That is more than the figure for Britain, even though Australia has less than half of the population.
In recent years the currency has also weakened, making services like tourism and education more competitive. And a concentrated financial system, revolving around four big banks, had little need during the 2000s to take the sorts of outsize risks that caused trouble for peers in Europe and the United States.
Graphic: An incredible run Down Under: reut.rs/2nziAnc
But in effect, Australia has swapped a resources bonanza for a housing boom. This was partly about the cost of money. As elsewhere, faced with anaemic inflation, the Reserve Bank of Australia has cut rates to record lows.
Psychology has played a role too. One local analyst likens the situation to a classic "Minsky cycle" – where macroeconomic stability breeds complacency and thus new risk. Sydney dinner tables buzz with planned property empires and the crazy returns made by flipping houses within a few years.
The mid-point for Sydney house prices is now nearly A$1.1 million ($838,000), according to Demographia. That is more than 12 times median income, and worse than any other place in its 92-city world survey, bar Hong Kong.
As Australians borrow to speculate on property, household debt has crept up to 123 percent of GDP - or nearly twice disposable income, a ratio that UBS says is among the highest in the world. Interest and principal payments eat up just 8.6 percent of income, but that is only because interest rates are so low. Most mortgages are on floating rates and a few rate hikes would make a big difference.
Chinese demand has contributed too, although foreigners are largely restricted to buying new apartments. And bizarre tax policy pulls money into property, most egregiously via "negative gearing" – a system that effectively compensates investors if mortgage bills outstrip rental income.
That policy, which helps fuel the bubble, has been called the "third rail" of Australian politics – threatening a lethal shock to anyone who tries to touch it. However, recent polls suggest a sizeable chunk of voters would back either scrapping the policy, or limiting it to new dwellings.
The boom is storing up trouble — and could soon enough blow a hole in Australia’s stellar economic record. In March, the OECD said it expected a medium term pick-up in the economy, but warned that a property downturn could result in "a rout on prices and demand with significant macroeconomic implications”. The previously frothy market for dinky new-build apartments, targeted largely at Chinese and other foreign buyers, is already looking strained.
True, mortgages are safer than in say, America, because lenders have recourse to borrowers' other assets, should they need it. Yet a correction would still be bad news for the four big banks - Australia and New Zealand Banking Group, Commonwealth Bank of Australia, National Australia Bank and Westpac.
Although the quartet is well-capitalised, property still makes up between 43 and 61 percent of the loan book. Meanwhile, the broader knock to consumer confidence and to the construction industry would cause a lot of pain.
Authorities have redoubled their efforts to engineer a soft landing. In late March, the banking watchdog ordered a 30 percent cap on home loans on an "interest-only basis" and urged lenders to ensure their loan books are growing by "comfortably" less than 10 percent a year.
For now, it is not obvious what ends the party. Housing bubbles do not usually collapse under their own weight – they are popped, perhaps by a spike in unemployment or interest rates. Optimists say household debt may be safer than it looks, because it is clustered among wealthier people, who are more able to manage it.
But taming a runaway housing market without any nasty accidents would make Australia's economic achievement even more impressive.
Reuters Breakingviews is the world's leading source of agenda-setting financial insight. As the Reuters brand for financial commentary, we dissect the big business and economic stories as they break around the world every day. A global team of about 30 correspondents in New York, London, Hong Kong and other major cities provides expert analysis in real time.
Sign up for a free trial of our full service at https://www.breakingviews.com/trial and follow us on Twitter @Breakingviews and at www.breakingviews.com. All opinions expressed are those of the authors.