Record low interest rates and generous support for home buyers culminated in exceptionally strong demand for residential building in 2021. So strong was this demand that it has tested the limits of the industry’s capacity. By the end of 2021 there was a record number of new detached houses under construction in Victoria.

The peak in demand for residential building coincided with major supply chain disruptions. The availability of skilled workers was hampered by COVID-19 outbreaks and border closures meant labour shortages could not be mitigated by interstate or overseas migration. Businesses are also being squeezed by rising costs for building materials and higher international shipping and landside freight costs.

Supply bottlenecks have caused widespread delays in the build process. It is now common for homes that would ordinarily have taken eight months to build, to take over a year to complete. However, the greater challenge facing the industry relates to the escalation in costs.

The vast majority of residential building contracts in Victoria are ‘fixed-price’ and there is very limited scope for builders to pass on these higher costs. While builders allow for variations in input prices, the speed, scale and breadth of the price rises has been very significant.

Delays in industry activity mean there is a large backlog of work. The industry will continue to operate near capacity through 2022/23. New home sales have slowed from the HomeBuilder peak and stabilised at a level that is around 24 per cent higher nationally than the same period in 2019.

The existing pipeline of residential building work will sustain a healthy level of activity heading into 2023, however the new phase of the economic cycle has started to bite. The Reserve Bank of Australia began the interest rate tightening in May and borrowing rates are widely anticipated to rise further over the months ahead. Rising interest rates will weigh on housing market conditions and on demand for new residential building over the next term of government.

New home starts in Victoria are expected to decline from an estimated 65,400 in 2021/22 to around 51,800 in 2024/25. The slowing in activity will primarily be driven by a decline in detached house construction as the market recedes from the recent record high.

The level of home building activity will rise and fall with the ebbs and flows of economic cycles. However, Victoria’s demographic profile implies a need to maintain a strong supply of new homes in order to provide a range of housing options that meet the community’s needs.

Improving the supply of housing must be a priority for an incoming Government.