Melbourne and Sydney home prices have sagged 7% from record highs, while prices nationally have slid 2%. As buyers wait for prices to fall further, auction clearance rates have dropped below the threshold of 60% that signals a market balanced between buyers and sellers. ANZ warns Sydney dwelling prices could slump 15% by the end of next year. Such is the drop in demand that the major banks say new mortgage applications plunged in the June quarter – the decline for Westpac, to cite the biggest, was 20%. The Australian Bureau of Statistics reports new loans for home investors slumped more than 10% in the June quarter – 14% in New South Wales.
Such is the blow to housing prices from three rate increases of 25 basis points by the Reserve Bank of Australia and the federal government’s decision to reduce tax incentives favouring property. Inflation at 3.5% in the 12 months to July, signals that the RBA might increase the cash rate again in 2026.
Economists are speculating steeper declines in housing prices could cause a recession if consumers reduce spending due to the hit to household wealth – nearly 70% of people’s wealth is held in housing. The collapse of property developer Bathla Group, which owed $3.4 billion to private creditors, epitomises such pessimism.
But there’s something scarier to consider. Home prices are falling yet only two of usual three preconditions for a property slump have been met. If the other condition materialises, Australia could host a housing crash for the ages.
The first prerequisite for falling house prices is that housing be overvalued. An asset class is considered excessively overpriced if prices are divorced from economic fundamentals. For property, the fundamentals governing price are rental yields (rental income divided by a property’s value) and affordability. Australian housing is at bubbly levels on these measures.
The surge of 63% since 2020 in the median house price (using ABS data) has boosted the mean Australian dwelling price to $1.11 million ($1.32 million for NSW) as of June last year, a price jump that has squashed rental yields to around record lows.
The latest Domain Rental Report shows Sydney’s average unit rent is $780 a week, which gives a rental yield of 3%. But after allowing for agent fees, council rates, maintenance expenses, a lack of tenants and other costs that trim owner returns, actual yields are closer to zero.
Affordability stats are as dire. Homes are now worth more than 10 times average income, a ratio that has more than doubled since the mid-1980s and makes Australian housing among the most unaffordable in the world.
The second prerequisite for a housing crisis is that interest rates jump enough to stress borrowers. This is where big mortgages and the fact that 95% of mortgages are on variable interest rates hurt – most mortgaged households quickly suffer the full blow of rate increases.
Mortgages are so large that Australian households are among the most indebted in the developed world. They owe debt equal to 210% of net disposable income – of which about 75% is tied to housing. The average new mortgage of an owner-occupied home is now about $730,000.
No surprise that the latest Real Estate Institute of Australia’s Housing Affordability Report shows the affordability gauge that started in 1996 is flashing near record lows. The report said the average annual loan repayment accounted for a near-record 50.8% of median family income in the March quarter, a date that doesn’t include the blow from the RBA’s rate increase in May.
Today’s standard variable rates above 8% are thus more threatening than those approaching 20% were during the recession of the early 1990s because household debt was low then.
Australia’s vulnerability to the first two prerequisites of a housing crisis is why many including the IMF regard Australia's housing market as among the riskiest in the world in terms of being at greatest risk of defaults. What could create the mass defaults that turn a slide in house prices into a crash?
The third stipulation for a housing crisis is a jump in the jobless rate that plunges too many households into debt distress.
The good news is that Australia’s economy is muddling along and the jobless rate, at 4.5% in July, is around full-employment levels, even if that’s up from 3.4% in mid-2022.
The bad news, however, is that a recession is inevitable one day – they are ingrained within capitalism. One coinciding with, even caused by, the drop in housing prices would spell trouble – with prices potentially plunging at least 30% in real terms.
A downturn soon is possible, especially when US tariffs are dismantling the world order, inflation is accelerating due to wars and AI demand, bond yields worldwide are surging on government indebtedness, bubbling global stocks are primed for a bust, and so on.
The unemployment rate could soon climb to levels that spark enough hurried sales from struggling households and trigger enough forced sales due to foreclosures to savage the property market. If the housing market crashes, the wider economic damage could approach Australia’s worst slump, namely the 1890s Depression that was caused by the Melbourne property crisis of 1891.
Policymakers, to be clear, will try everything to stop a rise in jobless numbers. They could therefore contain the drop in housing prices even if unemployment rises, except that their stimulus won’t last long. Job-losing households will deploy all efforts to keep their homes. But many of the newly unemployed will lack the resources to keep their homes, especially as stocks would likely be slumping too to the detriment of the ‘bank of mum and dad’. It’s true too that Sydney and Melbourne prices have only slid to where they were five years ago, while values in Adelaide, Brisbane and Perth are still more than double a decade ago. But they are falling. And they still have much further to decline to make housing affordable for average income earners.
Hopes that the drop in home prices will remain contained will depend on whether all the risks to economic growth amount to nothing much in terms of job losses. What might be the chances of that?
Michael Collins is a freelance writer and editor, economist, and investment specialist. Republished with permission from the author’s Substack newsletter @denouementwatch.