Forget fundamentals, this is the new normal: booming asset valuations when the QE tap is turned on, and a panicked stampede for the exits at the merest hint of it being switched off again.
Cashmore also explains why established dwellings in Australia's inner suburbs are frequently favoured by homebuyers and investors to new housing stock in the outer and fringe locations, and, importantly, that while the supply and demand of dwellings have an impact on prices, perhaps the supply of and demand for credit have a greater bearing.
Why deflation will be avoided at all costs
It's all too common for people to criticise our inflationary economy, but maybe it's worth re-capping on why deflation should and will be countered at all costs.
In theory, you might think that price deflation could be a good thing. We could go down to the servo and find that instead of being charged an extortionate 100 bucks fill up the Holden Thunder ute and acquire a four 'n' twenty pie with a pack of Lamington fingers (for this is how most Australians live, of course), it might only cost us $80 and we'd be effectively richer as a result. Cool.
Rewind the clock, though, to the Great Depression, where price deflation was accompanied with falling prices (including real estate prices), banks collapsing, countless companies going bust, astronomical levels of unemployment and the most brutal period of the 20th century across the globe. Just like the more recent global financial crisis, the Great Depression was preceded by debt-funded greed and speculation, and the Dow Jones index increasing by a preposterous fivefold in just six years.
When prices fall, those who hold debt are punished, and this is particularly so in the housing market. You could buy a house with a $500,000 mortgage today only to discover that the underlying asset is only worth $400,000 next year, leading to what is known euphemistically as being in 'negative equity' (i.e. up the creek, minus paddle).
It's fairly common today for people to say that anyone with mortgage debt has got it coming to them, and they'd deserve all they get. That may be so, but the real problem with a deflationary economy is the potentially relentless downward spiral.
The deflationary spiral
If you think you can buy the Lamingtons and the four 'n' twenty next week for fewer dollars than this week, you'd likely become discinclined to spend, and this leads to consumers hoarding cash. Retail trade dries up and Caltex probably have to drop their prices further to entice you back to the servo.
This becomes a total nightmare for Caltex because they still have to pay the pump attendant a $40,000 salary, but their turnover and margins are getting clobbered. They probably have to lay off one of the pump attendants.
Of course, with no job, the ex-pump attendant won't be borrowing money to buy a house, so the amount of money in the economy falls. It's the exact opposite of inflation where too much money is chasing too few goods pushing up prices.
The real risk in this circumstance is accelerating deflation (which is what Professor Steven Keen erroneously predicted would happen to house prices in the latter half of 2012; instead they increased strongly, largely due to investors returning to the market in anticipation of further price gains).
The best case outcome for the Australian housing market (in my humble opinion, at least - renters always disagree) is that prices continue to increase, but only moderately and at a lower level than the growth in wages, thereby effectively becoming cheaper over time. Unfortunately, price movement is rarely so uniform.
High inflation also brings its own uncertainties and can lead to boom-bust cycles, which is why we have a target range of inflation of 2-3%.
What if Australia stumbles towards recession?
Three things would happen. Firstly, interest rates would be dropped. Unfortunately interest rates in Australia can only drop so far until they hit a number starting with a '0', so if that doesn't work, the 'printing presses' will be switched on (QE), which actually means that the RBA will start buying assets (e.g. bonds), effectively increasing the money supply.
And thirdly, specifically with regards to the property markets, if prices began to slide dramatically, there would likely be other interference, such as, for example, relaxing the rules on foreign buyers, or other meddling. Non-property owners don't like it being said, but that's what, in my opinion, would probably happen.
It's easy for pundits to be critical the RBA's policy of targeted inflation, but, much like when we complain about getting older, it sure as heck beats the alternative.