I’m getting this question a lot lately, and it’s understandable after a period of strong, rising prices, followed by a sharp pull back.

For full disclosure, we’ve used property to build the majority of our net worth. Just because prices are down, there’s no way I’m selling now. Why? Because there’s no material change to what drives house prices.

That declared, is it still a ‘smart strategy’ going forward to build wealth using property? To answer this, we need to understand the primary force driving property values: Interest rates.

Interest rates are basically the cost of money. If you’re going to invest in property, then your long-term returns (rent + capital gains -costs) have to be greater than a ‘risk-free’ strategy (like a savings account). Like kids in a supermarket; money always gravitates to the sweetest return.

In a free market, interest rates—the cost of money—are determined by supply and demand. With a fixed money supply, rates adjust to where borrowers and lenders agree to exchange credit.

The problem is: We don’t have a free market for interest rates.

The Reserve Bank of New Zealand (RBNZ) determines the cost of money (through the official cash rate mechanism).

So instead of studying all the forces of supply (the ability for the market to create new housing units) and demand (immigration, demographics and economic growth), we need to consider the impact of ‘price controls’ from the RBNZ. How can you know the mind of another person, especially an obtuse one?

But let’s back up a little…’Price controls?’

Yes, because interest rates are influenced by the RBNZ, ipso facto, property prices (where borrowed money is used) are indirectly controlled by the RBNZ.

What’s the big deal?

Manipulated prices confuse market forces, and resources (like money, time, raw materials and talent) flow to less and less productive assets. (See also ‘rent controls’ in New York apartments).

I’ve always held the view that NZ property is a smart investment, based on the following logic:

  1.  The New Zealand dollar is programmed to lose purchasing power over time (at the rate of 2% – the inflation target of the RBNZ). This means that if you borrow NZD to purchase something that can’t be created as fast as new money, on a relative basis, you’re growing an asset faster than the liability.
  2. New Zealand is the best place in the world to live, and eventually the world will learn this. Sadly, some Kiwis have no idea, but the rest of the world will want to move here, especially as the rest of the world becomes more uncertain.
  3. Property is a conduit for new currency creation. The role of the RBNZ is to provide a cheap source of funding to the government (through the hidden tax of inflation), and prop up the economy not with growth, but with price-controlled, artificially-created money. The economy would crash if people didn’t borrow against property, and the banks won’t lend on property if the price is declining.

So what’s changed?

The only reason I’d be cautious around property in the future, is because everyday people are becoming more informed.

Most people who study economics in university (like me, your banker, your politicians, and definitely the central bankers) were taught something called Keynesian economics. Crudely put, if the government borrows then pays you to dig a hole which is then immediately buried, the new money created throughout this process ‘multiplies’ as it moves around the economy. This is a false science – You cannot print wealth. Inflation is the evidence of this claim.

“It’s a great business to be in, central banking, where you print money and people believe it.” Adrian Orr

The biggest threat to property investment is a growing population shifting their cash into shares instead of bricks & mortar, or opting for alternative forms of money like gold and Bitcoin. 

If you’re not ‘disrupting yourself’ as an investor, you risk becoming fixated on the tools rather than remaining focused on what you’re trying to build. For now, although the property market in recent years has effectively crashed in NZ, I’m supremely confident prices will rebound. The property Ponzi needs an unlimited supply of new market participants for prices to rise, and rising prices give rise to more demand for credit, and more credit is what really drives our economy.

NOTHING stops this train, until enough people jump on alternative transport.

“I don’t believe we shall ever have a good money again before we take the thing out of the hands of government. If we can’t take it violently out of the hands of government, all we can do is by some sly roundabout way introduce something that they can’t stop.” Friedrich Hayek