Are We Drowning in Mortgage and Consumer Debt?

Household debt-to-income ratio

The world revolves around money. And New Zealand, people can’t get enough of the cheap cash on offer from banks. I mean cheap compared to historic interest rates, borrowing is inherently more expensive than paying with cash outright.

The level of debt carried by New Zealand households has surpassed the levels of the global financial disaster of 2008. And it keeps growing. The current debt to income level sits at roughly 330% for households with a mortgage and 165% for households without a mortgage.

House hold debt levels in New Zealand from 1988 to 2018 Passive Income NZ

Should we be worried about this? Especially with international interest rates showing signs of rising recently. Surprisingly, the reserve bank of NZ doesn’t see the international interest rate rises as a major concern.  As long as that increase is gradual, the reserve bank thinks Kiwis can absorb the extra cost.

But, the financial stability report also published by the reserve bank of NZ, states that the high level of household depth in NZ as the “largest single vulnerability of the financial system”. What are we to believe in these two contradicting statements?

In recent years, the household debt growth has slowed down, thanks to measures put in by the banks such as the loan to value ratio restrictions, which allows individuals to only borrow 80% of the value of their homes.

But the debt to income ratio is still at an all-time high.

In 1988 the debt to income level as sitting at 46%. With the average household owing around $16000 in debt and with an average household income of $35,000. The level of household debt at the end of 2017 was 168% of the average household income, sitting at $160,000, with an average income of $90,000.

So the level of depth has increased rapidly over that period- a 10 fold increase. If that in itself isn’t shocking enough, the increase in average income has only increased by less than 3 times.

What’s really concerning is a recent report stating that 40% of the debt is carried by 8% of households.

In a messed up way, I actually like that statistic. 40% of debt is held by 8% of households. I like it because when things go badly, it will only be a small minority of households that are completely screwed (if they can’t maintain payments). This small group is most likely landlords and other property investors. This gives me hope that the majority of households will fare well when we have the proverbial unpredicted shock to the system.

Being highly leveraged is a hugged vulnerability.  You expose yourself to forces out of your control. If the interest rates rise slightly, everything is fine, but an abrupt change could make you struggle.

Where does this high debt to income ratio come from

I’m no macroeconomist, but anyone can make the conclusion that the high debt levels come from the increase in house prices and the low-interest rate. I think they fuel each other in a symbiotic relationship

Interest rates have been low for years, and in fact, I am from a generation that has never seen an interest rate higher than 7%. There have not been interest rates that high in my lifetime. But I wasn’t really concerned about that at the time. Take a look at below as the variable (floating) interest rate from 1965 to 2018, it is at a record low.

Data for the floating mortgage rate from 1965 to 2018.

The availability of cheap money, along with the shortage of housing, has pushed it past the level of being affordable for most first home buyers. The people who are just starting off are massively in debt compared to the older generation who already own a home.

Some new households are easily about the 500% debt level. You can just look at how the house price to income multiple has grown over time.

House price to income multiple for new Zealand 2002 until 2018 Passive Income NZ

It is now up to 6.3. That means that the median house price is 6.3 times the median household income. It has generally been accepted that a multiple of 3 is considered affordable. NZ is currently over double that.

Although, the 3 multiple comes from data and analysis of the US housing market and may not be completely applicable to the NZ market.

Either way, it hasn’t been at the affordable level of 3 since 2002.

What is a millennial to do?

It’s no wonder then that millennials are turning away from traditional housing. Not that they don’t want to buy a home, they just can’t afford one.

Not even kiwi build, the government’s scheme to provide affordable housing, will provide affordable homes based on the median household income of $89,000, a two-bedroom kiwi build home will sit at a multiple of 6.7.  And a three-bedroom home will be over 7.3 times the median wage.

Alternative housing and living arrangements have started to become popular amongst the younger generations. Things such as tiny homes. And boy do I love watching tiny home videos on YouTube!

Housing retirement plan

Housing has been part of the kiwi retirement plan for decades. And it makes sense. Housing will always be an expense we will have to pay. We all need somewhere to live. And in retirement, our cash flow is generally reduced. So it makes sense to have a fully paid-off house to lower the expense.

And to some extent, this has been my goal too. To decrease the mortgage so that my ongoing housing expense is lower. But what happens when you are not paying for a mortgage that will eventually become part of your retirement plan. Do you save any extra income for retirement instead? I would have a guess and say not many people do.

I consider myself one of the lucky ones

I bought a house in 2013. Before many of the banks lending restrictions. They were happy to lend me 95% of my purchase price. I was also fortunate to receive an interest-free loan from my parents to cover some of the deposit.

But even in 2013, the house I purchased was 5.6 my income. So by the above measure, it was not affordable. Factor in the extra rent from my flatmate brought this number down to 4.6. Much better than 5.6, but still considered unaffordable.

When I moved into my new house with my partner our multiple was 4.5. Even though our household income had more than doubled with the new jobs, we moved to a city that had twice the average house price.

Light at the end of the tunnel

When you start off with your first home the numbers are always scary.  You end up having a high debt to income level. I started off at 534% debt to income level. But over time, if you aggressively pay down the debt you can see that number shrink.  We are currently down to 186% debt to income level, and it has only been 5 years.

We have aggressively paid down the mortgage as it was part of our plan to retire early and live off passive income. To become financially independent. The problem was with our thinking back then is that we only focused on one side of the equation. Minimising our expenses. We didn’t focus on growing any passive income streams.

We have now changed our thinking. Focusing more on growing an income stream. We consider our debt level to be less of a vulnerability.

Wow Rant

I’m not sure where I was going with all this. When I came across the average debt level of over 330% I was a bit surprised. Then looking at my own history, it made sense.  I too was adding to this high figure, my debt to income ratio being over 500% at one point.

High house prices are one to the things that will hold many people back from retiring early or retiring at all. And I don’t know what the country can do about it.


5 thoughts on “Are We Drowning in Mortgage and Consumer Debt?”

  1. Strong work on aggressively paying down your mortgage. You are following a similar plan that I implemented to much success so hopefully you have a similar journey.

    I paid off my house completely and finally became debt free which was a huge weight lifted off my shoulders. Then I started concentrating on building passive income streams and because no money was leaving to service debt I could funnel it all into investments

    • Thanks Xrayvsn. We have been focused on paying down the mortgage as fast as possible. But in moving forward, we may look at slowing down the mortgage payments and redirect the money to investments. Taking a more diversified approach to building wealth.

  2. JL Collins states that your house is not an investment and as house prices are way over inflated in New Zealand, renting for many maybe the best option. Doing that and then investing the remaining funds into index funds is a good way forward. Everyone needs to do the numbers to work out the best way for them. If you do own a residential dwelling, my feeling is to get rid of this debt as soon as possible but this is an emotional response. Rohan, I see you are considering taking a more diversified approach and maybe that’s right for you. No doubt you’ll crunch the numbers and this will clarify your position.

  3. Housing is expensive here. There are more factors coming into play than just supply and demand.
    One thing of interest I find really interesting is the lack of any real manufacturing over in our corner of the world. Regulation and high cost of labor have led to a reduction in new businesses(other than self employed people, which I believe skews the statistic). This has also increased the need for automation.
    To put a robotic arm in costs one-two years wages for a minimum wage worker. For this you get no ACC levies, no holiday and sick pay, no complaining, a low maintenance cost and 4.2x the labor. This isn’t even considering AI to replace some office type jobs in the coming years. These will reduce job availability too.
    Failing this, the increasing in the cost to produce increases the cost of living, and means people have to pay more to live and thus have less free to devote towards housing costs.
    Something has to give over here, and low interest rates to artificially stimulate the economy have to go up while income and job availability drops off.
    Didn’t mean to go on a spiel, just my 2c.
    Glad we both have homes and that you’re well on your way to paying yours off, Rohan. Once it’s yours outright, or at least as good as outright, nothing can really take it away. Barring a police state/Marxist leaders…wait…lol.

    • Hey Ben, Thanks for the comment. I agree with you. The lack of automation is interesting in NZ. The same is true in agriculture, only now that there is a major shortage of the workforce are we seeing automation for the likes of fruit picking machines coming into the market. We might see this trend in housing soon too.


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