Why have rental prices increased? It could be COVID, and couples

So you think you know why rents have gone up.

You probably think it was skyrocketing interest rates and a tsunami of migration.

It’s true that interest rates have risen more in the past year than ever before, and it’s true that migration has erupted – in the six months to September 2022 (the last month for which we have official figures) more arrivals than departures came through 170,000.

But here’s the thing. Advertised rents started to rise sharply end of 2021 – six months before the Reserve Bank started raising interest rates, and at a time when it was not expected to do so.

And net migration was negative when the rents took off, the number of arrivals did not even match the number of departures.

It’s supply and demand

Something else caused the rent to rise.

There is no specific reason to believe that interest rates would have quickly affected rents, even if they had risen. If higher rates force some landlords to sell, and they sell to other landlords, the number of homes for rent will not change. If those landlords sell to owner-occupiers who would otherwise rent, they reduce both the number of rental properties and the number of tenants.

What matters in renting, as with any price, is the supply and demand of the product being priced. More demand (more tenants want homes) and the price rises. More supply (more homes for rent) and the price falls.

Read more: $1 billion a year (or less) could halve stress on rental properties

On the surface, neither supply nor demand changed much during COVID as rents started to rise. Australia’s population grew more slowly than ever before in modern history. And, as far as we know, the number of properties for rent increased, albeit weak.

What did change during COVID, according to the Reserve Bank’s research arm, was the average number of people per household.

The change doesn’t sound big – the average fell from just over 2.6 inhabitants per household to just under 2.55 – but applied to millions of households it meant about 140,000 more houses and apartments were needed than would have been.

Average household size (capitals)

Average number of people usually living in an occupied private home, trend and current.
RBA, ABS microdata

The sudden change has been very difficult for the construction industry to respond to, especially when it was stifled by COVID.

Why did we suddenly want to live with fewer people?

The head of the Bank’s economics department, Luci Ellis, thinks it was COVID itself, and shuts down. We suddenly became more valuable about sharing space.

“Love the one you’re with”

Ellis says the proportion of Australians living in group homes declined and remained low. Faced with the choice of living with a large number of roommates and only one other person, perhaps a romantic partner, many tenants left group homes and stuck with each other.

As she put it last year:

As for who you’d rather be cooped up with, at least some Australians have voted with their mover van, moving out of their shared home and moving in with their partner.

There’s more to it, of course, but where supply and demand for anything are roughly balanced (rents were up less than 1% a year in the four years before COVID and fell in the first year of COVID) any sudden change in supply or demand, prices can change quickly.

Advertised rental prices are not typical…

That said, prices are still moving slowly for most renters. Advertised rents in the capital have risen 13% over the past year, and average regional rates have increased by 9%. But average rents (the average of what all tenants pay) have risen only 4.8%.

Rents charged to existing tenants are rising much more slowly than those charged to new tenants, partly because landlords tend to like their tenants, and partly because first-year tenants usually have permanent contracts.

But as tenants move into homes over time and landlords become less prudish, more and more tenants tend to pay the advertised rents. It makes the rise in advertised rents an unwelcome sign of things to come.

…but they are a sign that rents are ahead

And it could get worse. Reserve Bank Governor Philip Lowe says population growth will rise 2%– about the peak that was reached during the resource boom.

We can’t build houses that fast. Lowe says the last time Australia’s population increased was about five years to ensure that the housing supply fully meets the housing demand.

Of course we have ways of dealing with it. One is to embrace group housing again, another is to postpone moving out of our parents’ homes, or to move back in.

But even if this happens, Lowe says, with typical understatement, that rental inflation — ultra-low pre-COVID — is likely to remain “quite high” for some time to come.

Read more: Rental crisis? Average rents are rising less quickly than you might think