Exploring Drivers of Extreme Housing Prices in Australia

TL;DR

This paper investigates the persistent rise in Australian housing prices, identifying supply limitations as a key driver and analyzing how mortgage rate effectiveness has changed over time using a differential equation model and extreme value techniques.

Contribution

It introduces a differential equation model of house prices and applies extreme value analysis to understand the impact of supply constraints and mortgage rates on housing price extremes.

Findings

Supply limitations are the main driver of decoupling between house prices and mortgage rates.

An 11% increase in mortgage rate is needed to slow extreme housing costs without supply chain improvements.

The effectiveness of mortgage rate adjustments has changed before and after the decoupling point.

Abstract

In recent years Australia has observed a growing, unexplained resilience of increasing house price trends. Here, we seek to understand what is driving Australia's indestructible asset using insights from market experts. We construct a differential equation model of house price to develop intuition for its historical behaviour and responsiveness to changes in mortgage rates. Using this model, we identify a point of 'decoupling' between house price and mortgage rate in the system with supply limitations found to be the main driver for this change. From there, modern extreme value techniques are implemented on real-world data to investigate how the effectiveness of mortgage rate in moderating extreme house price has changed before and after this historical decoupling. We find that without an increase in the housing supply chain, through either deregulation or reduced competition with government building, an 11\% increase in mortgage rate will be needed to slow extreme housing costs.