The immigrant elephant in the overpriced room

According to Demographic, Sydney is the second most expensive city in the world when it comes to housing prices.  My home town of Melbourne can't be too far behind.

Melbourne came in at six in the study, while Adelaide, Brisbane and Perth were all ranked in the top 20 most expensive cities in the world. 

Demographia, which ranks housing affordability in 406 cities with a population over one million, said urban containment policies were the cause of Australia’s affordability crisis. 

Urban containment policies aim to curb the growth of the urban sprawl by encouraging greater density in existing housing areas rather than opening up new sites, commonly called “greenfields”.

Restrictions on development are often put forward as a reason for high house prices, but given the level of urban sprawl in Melbourne, which is geographically speaking, quite large, this doesn't seem adequate as an explanation.  Perhaps there is something else??

Ahh, 

Massive number of Melbourne homes are lying vacant, angering homeless agencies.

More than 82,700 residential properties — or 4.8 per cent of Melbourne’s housing stock — sit empty, while many people struggle to afford to buy or even rent accommodation.
It’s a figure which has sparked anger from social housing agencies and some scepticism from the Real Estate Institute of Victoria (REIV). 

The study Speculative Vacancies by tax reform advocates Prosper Australia estimates 82,724 Melbourne properties are unoccupied based on water use of less than 50L per day during 2014, from data provided by City West Water, South East Water and Yarra Valley Water. 

Based on this information the Melbourne vacancy rate jumped 28 per cent in a year.
The report said putting the 24,872 properties deemed “demonstrably unoccupied” — due to a zero litres per day reading — on the market for rent would increase Melbourne’s vacancy rate to 8.3 per cent.

This figure seems to match what I observe in my local neighbourhood.  Why are these houses vacant?

Prosper Australia project director Karl Fitzgerald said the report showed land was being hoarded for profit. 

“The incentives for property speculators to hold prime locations empty is an affront to anyone locked out of housing,” Mr Fitzgerald said. 

So while developers want to push further out in the fringes of Melbourne, and "in-fill" existing suburbs, many useful houses and empty blocks of land are left vacant.  This is a clear sign of a market failure, where some investors find it more profitable to leave a house vacant, during a time when demand is high.  This failure is largely due to government policy, predominantly Negative Gearing and Capital Gains Tax concessions, which distort the economics of property ownership to such a degree that despite the gains that would be realised from selling to a hot market, the tax concessions the government gives outweigh that benefit.  Because these tax concessions make property investment more desirable, people are prepared to pay more, and have the taxpayer cover the cost of NG when the rental yields can't return a positive income.

Lets ask an economist why the prices are high...

Economist Alan Moran wrote that the costs were due to excessive regulation. “A fully finished new house (three bedrooms, two garages) costs as little as $150,000,” he wrote.
“Preparation of the land with sewerage, local roads, water and other utilities costs around $70,000 per block. The land itself is mainly used for agriculture and is intrinsically worth maybe $2,000 a block. Yet that new house in western Sydney costs upward of $700,000. 

“The fact is that governments have agreed to an ever-growing set of regulations covering everything from phony endangered species to requirements for set-asides for child care, community centres and so on.

“These compound the shortage of land created by refusals to allow development outside of some designated growth corridors, which means rationing of land available for housing. That rationing’s end product is housing that is increasingly out of the budget reach of younger buyers.” 

This is the standard argument given, but it falls flat for a number of reasons.  Firstly, the cost of building a new property shouldn't impact that price of existing properties. yet it is existing properties, especially the older ones, which are higher in price.  Existing properties exist in established areas, where there is no concern about  "phony endangered species" or set-asides for child care, community centres and the like.  This might increase the cost of new developments, but it doesn't explain the astronomical cost in established suburbs, where these concerns could for close to nothing.

Secondly, the argument about shortage of land implies that there is a problem getting developments up and running.  Yet Melbourne has turned into a giant construction zone.  Every second free standing house sold is pulled down for subdivisions.  Apartment blocks are going up everywhere.  I have never, ever seen so much construction in my life in this city.  The CBD's sky is full of cranes and there is now apparently an oversupply of apartments.  It's difficult to drive through Melbourne, and come to the conclusion that there is not enough development going on.  Development is everywhere.

Not to mention all the empty houses and empty blocks.

But why is there such demand in the first place, that such rampant building can't meet?

ABS population statistics: Victoria becomes Australia's fastest growing state