Article 2: Australian net private wealth

Treasury has published annual estimates of Australian net private sector wealth since the Summer 1990 Economic Roundup. This article updates previous estimates, and provides preliminary estimates for net private sector wealth as at June 1999.

The market value of Australian net private sector wealth grew by 9.8 per cent in the year to June 1999. In real terms (that is, after allowing for inflation), wealth grew by 8.6 per cent. Real wealth per Australian grew by 7.2 per cent.

Measuring wealth

The wealth estimates presented in this article are a measure of the value of net domestic and foreign assets owned by the Australian private sector. There are two key factors that must be kept in mind when using the wealth estimates presented in this article: their coverage and scope; and how they have been constructed. A number of assumptions and approximations are required to construct these estimates, particularly for the current year where much of the data remain provisional. Together with inevitable revisions to historical data, these limitations imply that the estimates should be interpreted as indicative of trends and broad orders of magnitude, rather than precise estimates.

Coverage and scope — what is included?

From an economic perspective, wealth can be defined as ‘a store of spending power that can be carried into the future’ (Jones and Perkins 1986, p. 150). Therefore, wealth can include a wide variety of assets, including financial assets, such as cash, shares and bonds, and non-financial assets such as dwellings, factories and other business assets that can be used to generate future income. From this broad economic perspective wealth also includes a variety of other less tangible assets that are sometimes refered to as ‘human wealth’. Human wealth includes, for example, the skills, education and social structures that can contribute to an increased capacity to generate income in the future.

From a practical perspective, some components of wealth based on this broad definition can be extremely difficult to quantify. In particular, it is difficult to value those assets that are not readily tradable and hence for which there are no readily observable prices. This is often the case for the various components of human wealth and some natural resources. As a result, the estimates in this article relate only to financial assets and non-financial (or physical) assets in those cases where there are well-developed markets and observable prices.

The Australian Bureau of Statistics (ABS) publishes estimates of wealth that include natural resources (ABS cat. no. 5241.0.40.001 and 5204.0), but these data have not yet been incorporated into the Treasury estimates. (The relationship between the Treasury estimates and the estimates in the ABS national balance sheets is discussed in Appendix A.) Also, the estimates of wealth published by the World Bank (1995) are based on a broader definition of wealth than the estimates contained in this article.

Another issue related to coverage is the scope of the wealth estimates. The scope of the estimates presented in this article is the Australian private sector. This consolidation of the private household and business sectors greatly simplifies the calculation of private sector wealth.¹ However, this consolidation does result in loss of detail on the liabilities of these two sectors. Consequently, the data on asset types contained in the attached tables and charts should not be used to infer relative ownership by either the household or business sectors, or the level of personal wealth.²

Methodology — how is wealth measured?

The Treasury estimates of Australian net private sector wealth are constructed using the inventory approach,³ largely following the methodology of Callen (1991). This approach involves aggregating across different asset types and adjusting for the public and/or foreign ownership⁴ of assets. The estimates are largely based on ABS estimates of the dwelling stock, business capital stock, stock of consumer durables and Australia’s international investment position. Reserve Bank of Australia (RBA) data are used for holdings of public securities and RBA liabilities. Some private sector data and estimates from previous studies also enter the estimates.

Since the previous Treasury estimates of net private sector wealth were published, in the Summer 1999 issue of the Economic Roundup, there have been some revisions to the methodology and data used in constructing these estimates. These changes are summarised in Appendix B.

Treasury estimates of net private sector wealth are calculated on both a market value and replacement cost basis. The market value of an asset represents the value that would be obtained if assets were to be sold in current market conditions. The replacement cost of an asset is the cost of reproducing that asset.

Private saving and wealth

The article, ‘The Measurement of Saving in Australia’, in the Spring 1999 Economic Roundup, noted that, from an economic perspective, private saving can be defined as the change in the real private sector wealth from one period to the next. Therefore, the annual change in real private sector wealth presented in Chart 1, below, can be interpreted as the annual economic saving of the private sector.

As a measure of private saving, the change in private wealth is superior to net household saving as derived by the ABS. The main advantages are that it has a broader scope (since it covers the private sector as a whole) and it captures valuation effects (that is, changes in asset prices). However, these valuation effects can mean that it is more volatile than measures that exclude them. The coverage limitations that apply to the wealth estimates will also affect the implied measure of private saving. While these limitations suggest that caution should be exercised when interpreting short-term movements, the change in the market value of private wealth provides a useful measure of saving by Australia’s private sector.

Movements in Australian private sector wealth in 1999

The estimates in Tables 1(a), 1(b), 1(c) and 2 indicate that real net private sector wealth continued to grow during the year to June 1999 at rates above the longer-term trend, for the fourth year in a row.

Through the year to June 1999, Australian net private sector wealth at market value grew by 9.8 per cent in nominal terms, 8.6 per cent in real terms, and 7.2 per cent in real per capita terms.

In current prices, Australian net private sector wealth was approximately $2,566 billion at market value and $2,080 billion at replacement cost on 30 June 1999. This represents around:

• $135,200 per Australian ($109,600 on a replacement cost basis); and
• 4.3 times the value of the annual nominal gross domestic product of the economy (3.5 times on a replacement cost basis).

Chart 1 shows growth in Australian net private sector wealth at market value, in both nominal and real terms, over the past two decades, and the average real growth rate over that period.

Chart 1: Growth in Australian net private sector wealth
at market value

(a) Includes Australian investment abroad and excludes foreign liabilities.

The contributions of the various components of private sector wealth to growth in nominal private sector wealth at market value are shown in Chart 2 below.

• In the year to June 1999, the main factor contributing to the growth in private wealth was growth in the market value of business assets (net of net foreign liabilities), which contributed 5.1 percentage points.

• The rate of growth in the market value of business assets was up from the previous year due to strong growth in stock market prices and ongoing growth in the business capital stock (reflecting the high level of business investment).

• The increase in the current account deficit since the beginning of the Asian crisis was matched by an increase in the rate of growth in net foreign liabilities over the same period. This increase in foreign liabilities means that growth in Australian owned business assets has been less strong than growth in total business assets in Australia over the same period. (Business assets in Australia contributed 6.9 percentage points to growth in wealth during the year while the increase in net foreign liabilities detracted 1.8 percentage points.)

• The other main contribution to growth in wealth in the year to June 1999 was from dwelling assets, which contributed 4.7 percentage points. This was driven by continued growth in established house prices and high levels of dwelling investment.
• Increases in the market value of consumer durables made a small but positive contribution to growth in the market value of wealth.

Chart 2: Contributions to growth in nominal Australian
net private sector wealth at market value

(a) Includes Australian investment abroad and excludes foreign liabilities.

(b) Includes money base.

Valuation ratios for Australian net private wealth

Valuation ratios for individual components of wealth (Table 3) provide a measure of the relationship between the market value and the replacement cost for that component. For dwelling assets, the valuation ratio represents the ratio between the price of established houses and the cost of building new dwellings (inclusive of land). The valuation ratio for business assets is the ratio between the price of existing business assets (as valued by the stock market), and the price of new business investment. The valuation ratio for government securities is determined by current interest rates relative to the interest rates at the time the securities were issued. If there is an unanticipated fall in interest rates relative to the interest rate at the time of issue, then the value of the security rises and vice versa.

Changes in market conditions for particular components of wealth (for example, dwellings) will affect the valuation ratio for that component. Changes in market sentiment and business confidence will lead to changes in individual valuation ratios and fluctuations in the total market value of private sector wealth. The value of wealth at replacement cost is not directly affected by these changes in sentiment or confidence, and hence is more stable.

Chart 3 shows valuation ratios for selected components of wealth.

• The valuation ratio for business assets increased during the year to June  1999, with growth higher than in the preceding year. This stronger increase reflected faster growth in stock market prices coupled with a decline in the price of new business investment.
• The valuation ratio for dwelling assets increased during the year to June 1999, although growth was lower than in the preceding year. This reflected slower growth in the price of established houses relative to the price of new dwelling investment.
• The valuation ratio for government securities fell because of higher interest rates (falling bond prices) during 1998-1999.

Chart 3: Valuation ratios for selected components of wealth

(a) Established house prices divided by the deflator for dwelling investment.

(b) Equity prices divided by the deflator for business fixed investment.

(c) Market price divided by face value.

Composition of Australian net private wealth by type of asset

Chart 4 shows the composition of Australian net private sector wealth (at market value) by asset type as at 30 June 1999. The composition of wealth remained relatively stable during the year, with the share of dwelling assets at around 53 per cent and the share of business assets at around 38 per cent. Consumer durables, government securities and the money base represented approximately 5, 4 and 1 per cent respectively of assets owned by the private sector.

Chart 4: Composition of Australian net private sector wealth
by asset type^(a)

(a) The components do not necessarily sum to 100% due to rounding.

(b) Includes Australian investment abroad and excludes foreign liabilities.

References

Bacon, B.R. 1998, Household Wealth and The Aged: An Income Distribution Survey Analysis, Sixth Colloquium of Superannuation Researchers, University of Melbourne, July 1998, Conference Paper No. 3.

Callen, T. 1991, Estimates of Private Sector Wealth, Reserve Bank of Australia, Research Discussion Paper 9109.

Horn, P. 1987, Private Non-Human Wealth of Australian Residents in the NIF-88 Model, NIF-88 Background Paper No. 9, December.

Jones, R.S. and Perkins, J.O.N. 1986, Contemporary Macroeconomics, 2^nd edn, Prentice-Hall, Sydney.

Modelling Section 1996, ‘Documentation of the Treasury Macroeconomic (TRYM) Model of the Australian Economy’, Treasury, Canberra.

Piggott, J. 1987, The Nation’s Private Wealth — Some New Calculations for Australia, The Economic Record, March 1987.

Department of the Treasury 1990, ‘Private Sector Wealth Estimates in Australia’ Economic Roundup, Summer 1990, Australian Government Publishing Service, Canberra.

World Bank 1995, Monitoring Environmental Progress: A Report on Work in Progress, The International Bank for Reconstruction and Development/The World Bank, Washington DC.

Appendix A

Relationship with the ABS national balance sheets

The Treasury net wealth estimates presented in this article are broadly consistent with those published in the ABS publication, Australian National Accounts: National Balance Sheet (ABS Cat. 5241.0.40.001). The main differences are that the scope of the Treasury estimates is the aggregate private sector and that the Treasury estimates are prepared using a consistent basis for valuing
the assets. In addition, the Treasury estimates are available for a much longer time period, thus allowing longer-term analysis of past changes in wealth.

In terms of scope, the Treasury estimates cover the total private sector in Australia. In contrast, the ABS balance sheets are prepared for a range of institutional sectors and for Australia as a whole, but not for the private sector as such. In terms of the ABS institutional sector classifications, the private sector is the combination of the ABS household and unincorporated enterprise sector with the private sector components of each of the non-financial corporation and financial corporation sectors.

The most significant difference in coverage between the ABS and Treasury estimates of wealth is the inclusion in the ABS series of unfunded superannuation claims owed by the public sector (the ABS has estimated these to have been worth approximately $132 billion as at June 1999). Other differences are that the ABS estimates include the value of demonstrated sub-soil assets, timber in native forests and intangible fixed assets such as computer software and artistic originals. These assets are not currently included within the Treasury estimates due to data limitations. Whereas the ABS estimates for these assets typically only go back to 1989, the Treasury wealth estimates are calculated for each year back to 1960.

Another important difference between the ABS and Treasury estimates is the valuation basis that is used. As noted earlier in this article, the Treasury estimates are compiled on both a market value and replacement cost basis. In contrast, the ABS uses a replacement cost basis for produced assets and a market value basis for financial assets and liabilities. As a result, the ABS estimates of ‘net worth’ (or wealth) are actually based on a mix of these two valuation methodologies.

It is possible to reconcile the main components of the Treasury estimates of wealth at replacement cost with the estimates of produced assets in the ABS balance sheets, although allowance needs to be made for the differences in scope and coverage. While it is not generally possible to derive estimates of wealth at market value from the ABS balance sheets, it is possible to infer an estimate of the valuation ratio (the ratio of the market value of an asset to its replacement cost) for business assets. This is because the net financial assets held by the combined household and unincorporated, general government and foreign sectors (valued at market prices) should represent claims over the net physical assets held by the financial and non-financial corporation sectors (valued at replacement cost). The ratio so derived is reasonably similar to the valuation ratio for business assets presented in this article, thus confirming that, apart from the scope and coverage issues noted above, the Treasury wealth estimates are broadly consistent with the ABS estimates in the national balance sheets.

Appendix B

Revisions to methodology and data

Since Treasury estimates of net private sector wealth were last published, in the Summer 1999 issue of the Economic Roundup, there have been some revisions to the methodology and data used in constructing these estimates. The most significant of these relates to the estimation of the market value of dwellings.

The market value of dwellings is derived by multiplying an estimate of the average house price by an estimate of the number of houses owned by the Australian private sector. Previously, private sector data on average house prices have been used, where these data are based on the prices of the houses sold during the period. However, these data can be distorted by changes over time in the mix of dwellings sold. For example, a greater (lesser) proportion of sales in more expensive suburbs would show up as an increase (decrease) in the average house price, even if the price of each individual house was unchanged. This problem has been overcome by switching to the ABS established house price index (ABS cat. no. 6416.0) which is constructed so that it is relatively unaffected by changes, from one period to the next, in the mix of dwellings sold.

With the switch to the ABS house price index, it was necessary to reconsider how the quantity of dwellings was being measured. Previously, the number of houses owned by the private sector was interpolated from Census data using data on completions. However, this approach ignores the gradual increase in the average ‘quality’ of the dwelling stock due to the trend towards larger (and typically more expensive) dwellings. Therefore, an estimate of the real dwelling stock that recognises the larger investment (building activity) required to construct, for example, a five-bedroom house as opposed to a three-bedroom house has been adopted. In particular, the estimate of the ‘quality adjusted’ quantity of dwellings is based on the real dwelling capital stock from the TRYM (Treasury Model) database (ABS cat. no. 1364.0.15.003). This in turn is constructed using real dwelling investment (that is quality adjusted) from the quarterly national accounts (ABS cat. no. 5206.0).

The result of these changes to how the market value of dwellings is calculated has been to slightly reduce the estimates for the last few years. This is mainly because the growth in the ABS house price index over this period has been slightly lower than the growth in the private sector data.

An additional development since the Summer 1999 Economic Roundup is that the ABS have significantly revised their capital stock estimates as a result of their adoption of new international standards known as the System of National Accounts, 1993 (SNA93). For more detailed information about these changes, see the article ‘Upgrade of Capital Stock and Multifactor Productivity Estimates’ in the 1997-98 issue of Australian System of National Accounts (ABS cat. no. 5204.0).

Table 1(a): Nominal private sector wealth at market value

(a) Preliminary figures.

Table 1(b): Real private sector wealth at market value(a)

(a) Real wealth is calculated by dividing nominal wealth by the private consumption deflator.

(b) Preliminary figures.

Table 1(c): Real private sector wealth per person at market value(a)

(a) Real wealth is calculated by dividing nominal wealth by the private consumption deflator.

(b) Preliminary figures.

Table 2: Nominal private sector wealth at replacement cost

(a) Preliminary figures.

Table 3: Valuation ratios for selected wealth components

(a) Established house prices divided by the deflator for dwelling investment.

(b) Equity prices divided
by the deflator for business fixed investment.

(c) Market price divided by face value.

(d) Preliminary figures.

[1] Consolidating the private household and business sectors implies that the bulk of financial instruments held by households (such as bank deposits, debt instruments and superannuation) are netted out in the analysis.

[2] Details on assets by sector are available in the ABS publication Australian National Accounts: National Balance Sheet (ABS Catalogue No. 5241.0), and Bacon (1998) discusses household wealth estimates in detail.

[3] Other approaches for constructing estimates of wealth include the portfolio and estate methods. Piggott (1987) provides a useful summary of these approaches.

[4] The wealth estimates presented in this article measure wealth owned by Australians, regardless of where that wealth is located. For example, an Australian-owned factory located overseas contributes to Australian net private wealth, while an overseas-owned factory located in Australia does not.