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The Reserve Bank predictably decided to leave interest rates at the record low rate of 1.5% over July extending the current record sequence without a change in official rates to 23 months.
Although the last change in rates by the RBA was the cut to the new record low in August 2016, the previous increase in official rates was in November 2010 nearly 8 years ago. This is also the longest period on record without a rate increase from the Reserve Bank.
Changes to official interest rates directly impact housing market performance as they are passed on by banks to mortgage rates that consequently affect housing affordability.
Lower mortgage rates enable higher borrowing levels with a given income that releases pent-up demand for housing resulting in rising prices. Higher rates restrict lending with borrowers having to pay more with a given income which creates pent-up demand for housing and results in downward pressure on prices
Sharp declines in mortgage rates since 2011 to record low levels have released pent-up demand resulting generally in increases in home prices in most capital cities. The level of prices growth, however, has been dependant on local supply and demand factors.
The end of the mining boom in 2011, and the associated decline in economic activity was the catalyst for the RBA to cut interest rates to stimulate growth. The Australian economy, however, failed to respond as in previous periods of lower interest rates which resulted in a sequence of rate cuts over 5 years by the RBA in continued attempts to lift the economy.
Although the labour market has improved over the past year (with record jobs growth and a lower unemployment rate) most of the improvement is a result of record level migration.
The clear concern for the Reserve Bank is the stubbornly low growth in wages that remains at near-record low levels, and is acting to constrain domestic consumption that is a key driver of the economy.
The RBA is clear that without a sustained improvement in wage growth, official rates will remain at current levels for the foreseeable future which is likely to extend well into 2019 and beyond.
Although domestic consumption has been subdued recently, Australia’s export sector has been a positive driver of economic activity. Concerns are rising however that a looming international trade war may impact our export performance which, together with ongoing stagnant wages growth, may force the bank to cut rates sooner rather than later.
The clear concern for the Reserve Bank is the stubbornly low growth in wages that remains at near-record low levels, and is acting to constrain domestic consumption.
Although decisions by the RBA directly impact mortgage rates, out-of-cycle changes can occur that can similarly affect housing markets. APRA, the financial sector regulator, determined in 2015 and again in 2017 that high levels of lending to residential investors was risky for banks who accordingly tightened investor lending conditions which predictably resulted in significant declines in housing market activity and lower prices.
Following some sharp house price declines and some criticism, APRA has announced that they will now discontinue their recent questionable market-manipulation policies.
If banks were tempted to unilaterally raise mortgage rates significantly out-of-cycle under the cover of higher international borrowing costs this would clearly have a negative impact on already constrained household incomes.
With inflation set to rise from higher fuel and energy costs together with a weakening dollar pushing up the prices of imported goods and no sign yet of rising wages, a subsequent fall in real incomes would be fertile ground for a recession – particularly given the rising prospects of trade barriers impacting our still robust export sector.
And with house prices now falling, the negative net effect of weakening household balance sheets and lower real incomes on already flat domestic consumption would surely compel the bank to cut rates.
Although home prices have eased recently because of tighter lending conditions for investors and the waning effect of the generally lower rate driver of recent years, the prospect is that mortgage rates will now remain lower for longer.
This is clearly a positive outcome for homeowners providing longer-term stability, certainty, and predictability in housing market performances which is a significant change from the roller coaster ride in prices of recent years.