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It's now tougher to buy a house

HOUSING affordability worsened late last year despite a mortgage price war because prices rose even faster than the ability of workers to pay for them.

Nation-wide, there was a 7.4 per cent drop in the affordability of buying a house in the December quarter, the quarterly AMP Home Affordability report shows.

This drop defied predictions that the housing market would run out of steam and that buying a house would become more affordable.

Towards the end of last year, the major banks began competing heavily for fixed-term customers, dropping their rates down to as low as 6.9 per cent, which the report says gave the market an unexpected boost.

The price war also blunted the Reserve Bank's effort late last year to slow the housing market through a series of official interest rate rises.

The bank fears that homeowners, who are feeling wealthier because of the housing price boom, are creating inflationary pressure by spending those capital gains on cars, holidays and other consumer goods.

Mortgage rates have now moved back towards 7.5 per cent. As demand settles because of higher interest rates, houses should gradually become more affordable, the report says.

The study calculates affordability by combining house prices, mortgage rates and average weekly earnings.

The mortgage war led to an unexpected burst of activity, which drove the median house price up 5.3 per cent to $260,000 on high sales volumes. Southland saw the biggest drop in affordability at 16.6 per cent, while Taranaki fared best with no change.

For the 12 months to December 2004, houses dropped in affordability by 15.1 per cent nation-wide, the steepest drop for nine years.

But the economy is slipping toward recession, shored up only by a strong housing market and high employment, economists say.

In some of the toughest talking for months, Westpac chief economist Brendan O'Donovan described New Zealand's present business cycle as "well past its best-by date".

"Thank goodness the housing market hasn't yet hit the wall, or else the dreaded R word, recession, would be the topic of the day," he said.

"Westpac has long been of the view that a record level of the exchange rate, rapidly dropping net migration, higher interest rates and an eventual tipping over of the housing market would knock the economy for six."

The growing caution among economists comes off the back of lower than expected March-quarter gross domestic product figures which delivered only 0.6 percent growth compared with the same period last year.

Annual gdp growth slowed to 2.5 per cent at the start of this year, down from 5.8 per cent in June 2004.

"The relatively weak gdp result joins a collection of other data suggesting an economy that has the wobbles," Mr O'Donovan said.

Net migration is heading down and the mortgage war rebound was proving only a reprieve for the housing market.