Prices of vacant residential land in places such as Sydney and Melbourne are surging amid signs of critical land shortages in those capitals, dashing hopes in the development sector’s ability to generate new housing at pricing points which are affordable for young Australians.

On a weighted average basis, prices of vacant residential lots across capital cities surged 7.8 per cent in the September quarter last year alone and 12.8 per cent in the year to September to go from $277,585 to $313,074, according to the most recent Residential Land Report released by Housing Industry Association and CoreLogic.

Leading the way is Melbourne ($310,000), where prices surged 15.2 per cent for the quarter and rose by almost one third over the year.

Likewise prices in Sydney ($480,000) rose 3.2 per cent during the quarter and 10.3 per cent year on year.

Worryingly, land sale transaction volumes are at their lowest levels in around five years in both cities. Combined with the price rises, this likely indicates a lack of available supply to purchase.

Outside the two main cities, prices are actually in modest decline across most other capitals except for Perth.

Pricing pressures are also more modest across regional areas, where median land values increased by 2.7 per cent during the quarter and 5.1 per cent year on year.

Overall land prices rose by 6.5 per cent during the quarter and 10.9 per cent year-on-year.

HIA senior economist Shane Garrett says land shortages have emerged in Sydney and Melbourne as supply has been unable to keep pace with new housing demand.

“Certainly, we are seeing shortages in Sydney and Melbourne,” Garrett said. “The problem with the demand and supply situation is that is that the land supply is system is designed in such a way that it is very difficult to respond to large increases in demand in quite short spaces of time.

“Demand for home building in Australia has increased due to a number of factors including population growth and ultra low levels of interest rates. Because land is quite slow to respond to changes in demand when demand goes up you are going to see prices go up, you are going to see price escalation when it comes to land.

“Home building is very strong and the ability of supply to catch up with demand has again fallen short. Prices have been forced higher as a result of that.”

According to Garrett, delays in making land available can be attributed to several factors.

First, there can be issues with the level of resources within planning departments to make new land releases a reality.

Second, there are issues with financing the cost of putting in essential infrastructure such as water and electricity. Developers, Garrett said, are often forced to pay the upfront cost of this happening. This, he says, can slow down the conversion of raw land into serviced land upon which new housing can be built.

Going forward, he would like to see more consistency across the country in measuring how much land is becoming available. Whilst some areas proactively measure how much new residential land is becoming available for residential use, Garrett said others do not.

Australia could also improve the way infrastructure financing arrangements were done. In places such as North America, Garrett says local authorities have been able to leverage off their relatively low borrowing costs and enter into arrangements with developers to provide this infrastructure at a lower borrowing cost.

Also on the infrastructure front, Garrett said pricing models are arbitrary in nature and there are fears that utilities could be using their monopolistic position to engage in price gouging, thus again driving up the cost of putting this infrastructure in.

Any action which could improve pricing transparency would be welcome, he said.

Sean Stephens, managing partner of Essential Economics, cautions against over-generalised statements about the market as a whole. Rather, he says, the question revolves around the right level of supply at the right locations.

“It’s not necessarily true to say that there is an overall lack of supply Australia-wide,” Stephens said. “There are plenty of tracks of land that are identified for current and future development.

“But what we are seeing is that in particular areas and in particular cities and parts of cities and various regions of Australia there does seem to be a mismatch at the localised level between that supply and demand.”

He said that whilst Sydney enjoys wonderful natural features, these mean the city has ‘basically about as hard a boundary as you can place on a city’s outer growth that you can get,’ By contrast, in Melbourne – with a flatter topography and boundaries which are more conducive to urban growth – there are more questions about whether or not land supply policies are appropriate.

He says that where Australia 15 to 20 years ago was preoccupied with outer urban growth, it is pleasing to see governments adopting a more nuanced approach and balancing greenfield development with urban infill. This is especially the case as many of those who had migrated to Australia over recent years are accustomed to a more consolidated form of urban living. This, he said, needs to be balanced with those who enjoy living on the urban fringe.

As for fringe growth, he says long-term strategies which have been rolled out in South-East Queensland, Sydney and Melbourne show that governments are demonstrating greater comprehension of the need to plan long term for sufficient areas of land demand.

One interesting question in all this revolves around suspicions raised by some that governments may be intentionally lagging in efforts to speed up land supply in order to take advantage of rising prices in order to maximise land tax revenues.

Garrett acknowledges the revenue impact and adds that governments may have an incentive not to engage in excessive land releases in order to avoid upsetting existing land owners – the value of whose land holdings increases faster when new land releases are limited.

On the flip side, he says governments who release greater volumes of land also benefit from a broader transaction base from which to derive higher revenues from stamp duty. Accordingly, he says questions about incentives to hold back releases are difficult to answer with certainty.

Of course, it should also be acknowledged that land shortages are evident only in Sydney and Melbourne. Given the volumes of new home building currently taking place in these markets, it is likely that at least the majority of any shortfall is being driven by abnormally high levels of demand rather than any intentional effort to restrict supply.

“I’m not sure how deliberate it is,” Garrett said.

“We all know that price increases are very popular with those who already own land and already own their homes. For that reason, governments do have a conflict of interest in terms of releasing more land which will see price growth slow and voters will punish them for that.

“There is also the revenue impact as well. Land tax is based on the price of land and the higher that is the more revenue they get. I think governments do have a bit of a conflict of interest when releasing land. It could come back to bite them.”

Stephens, is dismissive of such suggestions.

“That’s not the sense that I get,” he said. “I’ve been involved in numerous studies in the private sector and the government.

“I can say as a practitioner in that space that it is not something that has ever been on my radar. The reality is with the land tax and the tax that has been associated with that which the government generates from urban development – it’s based on volume. It’s not based on price. It’s based on churn. Stamp duty happens when a transaction takes place.

“Treasury and state governments are keen to see urban development proceed. It’s more from the planning side which is about thinking about how this can be done where there is consideration about how development should occur which is sometimes frustrating for developers.”