Could the cure be worse than the disease?

As east coast property markets fire up, with Melbourne topping the growth rate at 5.5 per cent for the three months to the end of October, the very thing that was the root cause of so much pain in the past has delivered some much longed for relief.

But for how long?

After just four months, first home buyers once again face the prospect of being forced to the sidelines while the dangerous build-up in household debt during the past 30 years, to an eyewatering 200 per cent of income, appears likely to resume.

The level of personal debt in Australia has skyrocketed.

The grinding slow-down in national housing values from late 2017 hit consumers and put a brake on spending that flowed through to retailers and gradually trickled to the furthest corners of the economy.

Eventually, it hit building investment and construction. And that's when the panic set in down at the Reserve Bank's Martin Place headquarters. The possibility of a lift in unemployment compounding an already soft economy saw it ramp up the rhetoric on federal and state governments to bust out the bucks, to spend up big on infrastructure.

The newly-elected Morrison Government, however, had other ideas. Committed to a budget surplus, it agitated for a loosening in credit restrictions introduced in the wake of the banking royal commission to curb irresponsible lending.

The Reserve Bank then piled on three interest rate cuts in quick succession. It was an embarrassing about-face. For three years, rates had been on hold. And for most of the previous year, the RBA had insisted the next move in interest rates would be up.

Economists at 20 paces

The Federal Government's two leading economic advisors are locked in a desperate tussle.

In what appears to be the ultimate case of irony, or even pass the parcel, Philip Lowe, Reserve Bank governor and supreme commander of monetary policy, has argued that interest rate policy has reached its limits and it's time to employ fiscal policy.

Newly appointed head of Treasury, Steven Kennedy, the man in charge of all things fiscal, however, begs to disagree. His opening statement to a Senate Committee a fortnight ago laid out, in perfect harmony with Prime Minister Scott Morrison, why the government should resist the temptation for a spending splurge.

According to Dr Kennedy, interest rates should do all the heavy lifting when it comes to economic management. While serious global economic challenges are afoot, he firmly believes the budget should only be used to stimulate the economy in extreme cases.

The recent tax cuts, combined with decent jobs numbers would be enough to maintain growth while the lift in home prices should encourage more household spending, he said.

Having racked up deficits every year since the Abbott Government was elected, federal debt since then has doubled and the government wants private sector debt to again lead the charge.

What that tells you is that interest rates are likely to remain low, not just for a long time, but at a lower level than they otherwise would be given the government's reluctance to loosen the purse strings and risk plunging back into deficit.

First home buyers out in the cold

The speed at which the housing market has bounced back has stunned many observers. If the current pace is maintained, we will be back to record levels before the middle of next year.

Which gets us back to square one.

First home buyers, after a tentative return, are likely to be forced out of the market. While investors have been subdued for more than a year, the prospect of decent capital gains and relaxed lending restrictions are likely to see them return.

There are two reasons for that. With official interest rates below 1 per cent, the hunt for yield will force investors into riskier areas and with the Coalition election win earlier this year, any chance of diluting the tax incentives, negative gearing or capital gains, have been obliterated for years to come.

On top of that, housing construction has slowed to a snail's pace. Residential approvals bounced in September but they're still close to a six-year-low. With reduced future supply, that's only going to add to pressure on housing prices, particularly if the Federal Government maintains its current high levels of immigration.

Residential construction in Australia is on a downward trend across the board. ( ABS )

And that puts the Reserve Bank in a tight corner. Slowing construction could add to unemployment at a time when households are struggling under a mountain of debt.

In the absence of any help from the government, its only option is to continue cutting rates, while possibly trying to put a brake on prices through the reintroduction of lending controls.

Westpac's Bill Evans reckons the next cut will be coming in February while UBS's George Tharenou is pencilling in a possible cut to 0.25 per cent by mid next year, depending on how other central banks behave.

Homeowners to the rescue?

The Federal Government has a lot riding on a housing boom rerun. For months, it has been urging banks to lend, in the hope that a rising housing market will reignite the "wealth effect".

That is, if households feel richer, perhaps they'll start spending again. For the past two years, we've had a "negative wealth effect". When housing was in decline, consumers curtailed spending and retail took a pounding.

The problem is, this time around there's very little headroom for increased spending. Households are hocked to the eyeballs with record debt levels and wages growth has been painfully weak for years.

Not surprisingly, consumers are still gun-shy. In fact, figures released by the Australian Bureau of Statistics last week indicated that mortgage credit growth in September had reached its lowest level on record.

Given the mini-boom in housing, and the recent uptick in auction clearance rates, that just didn't make sense. Except, as MacroBusiness economist Leith Van Onselen pointed out, a large number of over-indebted Australians are using the rate cuts to pay down their mortgages faster, offsetting the uptick in loan approvals

So, while buyers have jumped back in to the market, existing homeowners have decided reducing debt is the primary goal, thereby knocking a mighty big hole in the hopes that consumers will head back to the shops.

The RBA kicked off a housing boom in 2012, to offset the end of the mining boom, with a series of rate cuts that propelled household debt to near toxic levels. Now we're at it again.