BTW Nic, if you didn't hear the report on last night's PM
programme, here is the transcript, which kind of sounds rather
serious to me.

http://www.abc.net.au/pm/content/2007/s2108461.htm

The latest US banking twist is bringing out discussion of
Enron style of happenings within the system and talk of some
of the largest banks going bust. So I'd say the whole thing
is a long way from over and given that many of our banks
borrow from overseas to lend locally, its bound to have
an effect on local lending and house prices.

One financial report that I read last night, claimed that
median house prices in California had dropped by 90k$ since
August. I have yet to see that verified elsewhere, but it
looks like 2008 could be a rather interesting year, lower
house prices might well be on the cards.

In case anyone missed it 'grputland' hit the nail on the head with this quote:

“Only if negative gearing were confined to NEW CONSTRUCTION it could be defended as an incentive to supply housing. Such a reform, far from seeing "droves of investors leave the market", would stimulate construction, loosen up supply, and make rents and prices more affordable."

Yes indeed.

As construction has been the missing element in the “housing” boom the incentives for speculators to drive-up the price of established homes are a clear & obvious travesty - yet few in the major political parties or media are keen to openly discuss it.

On one hand the tax rorts have exacerbated the generational wealth divide as first-home buyers now find themselves paying up to 8 times average yearly income for properties that cost 4 times annual income not that long ago. Thus delivering huge windfall gains on investments that add nothing to production.

The wealth and "prosperity" generated by the speculative boom in house prices represent a redistribution of wealth from 1st & future homebuyers to (mostly older) property owners rather than a net increase in wealth.

The established owner-occupier's only real advantage has been an increased capacity to borrow.

The implications of this go beyond housing affordability & generational disadvantage. A recent speech by Deputy Reserve Bank Governor Ric Battelino* pointed out that household debt has gone from being equivalent to 30% of GDP in 1990 to ‘around 100%’ (yes 100%) of GDP currently & nearly all of it is attributable to borrowing for “houses to live in” & “houses to rent”.

This in turn adds dead weight to foreign debt as Australian lenders sourced a lot of their funds from overseas. Interestingly, business debt by comparison is equivalent to 60% of GDP.

The relative size of the household debt has dire implications for the entire economy given the continued rise in interest rates and & the potential for a fall in property prices.

-Mr Smith

**See: ‘Some observations on Financial Trends’ under “Speeches” on the RBA website

Yabby, there's a certainly a good possibility of an easing of house prices if the credit crunch worsens and its effects spread to Australia, however there's a number of critical differences in the U.S. market and the one here. For a start, the U.S. housing market is oversupplied: in the last 5 years, they basically built too many houses for too few buyers, whereas here vacancy rates are at record lows. Secondly is the level of subprime lending: around 20% in the U.S. vs 1-2% here (where they are called "non-conforming" loans).
And thirdly, the lowest interest rates ever got here was around 5%, vs 1% in the U.S.
On that basis, I would be extremely surprised to see Australia witness anything like the collapse in housing prices that the U.S. has seen.

Nic, houses are much cheaper in the US, as land is less regulated,
therefore cheaper. More people would build houses here, if more
cheaper land was available and its not, due to Govt regulation.

Its pointless to say build more houses, if the cost of the land
and house package is above what people can afford to pay.

As to the US problem, subprime is only part of that story. What has
gone is trust in the banking system. Banks don't even trust each
other, as nobody knows how close to going broke anyone is. The
truth is yet to be revealed. As alot of our loans come out of the
US banking system, we are sure to feel the effects. Already banks
here can be seen to be actively chasing retail deposits from retail
investors, as their cost of borrowing from overseas wholesale has
increased. That will be passed on to borrowers of course.

Money in Australia, has been too cheap and too easily available.
I feel that is about to change. When they start to talk of
America's largest bank going bust, you'd be kidding yourself
that it would not have quite serious consequences here too, as
its all one global economy now. Anyhow, a slowdown in our economy
might be a good thing, bring some normality back into the money
and employment markets, as both have been way overheated.

"More people would build houses here, if more
cheaper land was available and its not, due to Govt regulation"

We've been over this before: there is plenty of cheap land available , but it's cheap because it's in locations where people generally don't want to live (a brief search on domain.com.au found several good-sized blocks of land under $120000 around 30km from the city). OTOH, I do agree that government regulation restricting residental developments in existing areas is a problem.

But speaking of government regulation, it's almost certainly the case that the banking system woes in the U.S. are the inevitable outcome of inadequate government regulation. Indeed, the almost certain outcome is going to be re-introduction of stricter regulation, but unfortunately done as a "last resort" measure, not as a genuine acceptance that a sensible regulatory framework is necessary for financial markets to operate smoothly.

A few points to address:

Grputland:
If the undeductible interests costs on holding vacant land exceed the capital gain (so that there is a capital loss), it can only be offset against a future capital gain. Capital losses are not deductible against normal income - they can however generally be carried forward indefinately to be offset against future capital gain.

Also, the negative gearing I dont believe is defensible on the basis of its potential to increase housing supply. I think it is defensible on the basis of normal profit calculations - that is, you get to deduct your expenses against the income that you earn. Its not a tax concession, its the basis of our entire income tax system. I cant for the life of me see why there should be different rules for people that earn income from investments compared to business owners or even wage earners (yes wage earners ALSO get to deduct any costs associated with earning their income). Its not this evil concession that only the rich get, as is sometimes portrayed. The investor still has to fork the excess payments out of their own pocket - they are making a loss.

Northerner, tax at the marginal rate outlined above on taxable capital gain of $230,000 is around $86,550. This is exactly the same as a wage earner would pay if they had earned this amount of money. Capital gains once calculated is added to normal income, so is taxed in EXACTLY the same manner.