Soft Landing

The most palatable scenario is probably a soft landing, where house price growth slowly tapers away and Kiwis' incomes increase to catch up and make housing more affordable again. There are already some signs that this is happening.

The latest QV Index, which looks at sales over the past three months, shows price increases slowing in 61 per cent of the country.

Turnover has dropped more than 20 per cent year-on-year in Auckland. Generally, fewer sales leads to softer prices in a few months' time because there are fewer buyers competing against each other, driving up prices.

Incomes have been well outpaced by house price growth over the past few years but there are signs that this is picking up again - while wage growth is only running at about 2 per cent year-on-year, sectors such as construction have shown good gains.

ANZ chief economist Cameron Bagrie says it's not enough to say that just because house prices are expensive, they'll necessarily fall dramatically. "You need a trigger. Historically that has been a global event that drives a domestic recession or an increase in interest rates. It's hard to see interest rates going up any time soon."

Other factors, such as strong migration, interest from overseas buyers and low migration are also likely to temper the speed of any price fall.

Hard Landing

Generally, even if the price buyers are prepared to pay drops quite a bit, the effect is limited because owner-occupiers just stay put rather than accept less. But if there was a sharp downturn in the labour market, there could be a stronger correction in prices that would flow through the market.

People who could not keep up with their loans would be forced to sell - and if there weren't the willing buyers to pay the same prices, they might have to settle for less.

NZIER economist Christina Leung says an unexpected, sharp increase in interest rates could have the same effect if it made mortgages unmanageable and people had to bail out. When new buyers are taking out mortgages of half a million dollars or more, a small increase in interest rates can make a big difference.

Economic consultancy Infometrics has suggested a significant drop is on the horizon purely due to things getting back to more of a normal balance. They argue that as the rate of new building catches up to demand, prices could fall about 11 per cent over the next couple of years.

Crash Landing

Former Reserve Bank chairman Arthur Grimes made headlines in the middle of the year when he suggested Auckland house prices needed to fall about 40 per cent.

There are others who agree a big crash is the only way back to a sustainable market.

Economist Shamubeel Eaqub is one - but he cannot put his finger on when that will happen. "We've never had this much debt or this level of over-valuation," Eaqub says. The end, when it comes, will be due to the banks, he says. "It's always banks, global funding or regulatory requirements." Auckland will be the worst affected, he says. 

Commentator Hugh Pavletich, who argues house prices are unaffordable when they go beyond three times incomes, says it is going to be painful as the market winds down. "We should not understate that. Housing bubbles by definition are not sustainable and will blow apart at some stage." He says local and central governments had the choice whether to build out of the bubble or allow it to bust.

Christchurch is building out of its bubble - MyValocity data shows house prices stagnating in October. But Auckland's building work is not keeping pace.

"There has been a massive political failure,  particularly in Auckland, in not getting sufficient new housing supply in place. There is now a very strong likelihood that Auckland will 'bust'."

There hasn't been a big crash in New Zealand but there are plenty of examples of what it might look like from overseas. In Detroit in 2010, house prices had fallen by as much as 80 per cent over three years. Japan went through a bubble in the 1980s and early 1990s, which ended with house prices falling 80 per cent there, too, up to the turn of the millennium. 

Should we worry?

If you are a first-home buyer who has recently got into the market, any of these scenarios probably sounds a bit scary.

How worried you should be probably depends on a few factors: How likely you are to need to sell your house in the near future, how stretched you are with your mortgage payments, how fast you're paying off your mortgage and how well you could handle a reduction in household income.

As long as you are not forced to sell while the market is down, you can ride it out.

Leung says the Reserve Bank's loan-to-value restrictions, which limit low-deposit lending, have only had a modest impact on house prices. But she says they have been successful in improving the resilience of the financial system and reducing the number of high loan-to-value mortgages. 

That means borrowers are less likely to be stuck in negative equity if house prices drop a bit - because they already have a bit of a leeway in the deal.‚Äč