With the prediction of a post-Covid drop in unemployment and expected wages growth of around 3 per cent this year, the Reserve Bank of Australia (RBA) was cautious about a sharp jump in inflation. The board previously stated that it would not be increasing the cash rate until actual inflation is sustainably shown to be within the two to three per cent target range. However, last week, the Reserve Bank of Australia’s Governor Philip Lowe said that it was a ‘plausible scenario’ that the cash rate would meet with a price hike this year, especially with the revised forecast for inflation to reach 3.25 per cent by June. This ‘plausible’ scenario is now being forecasted as ‘likely’ by HSBC economists from the second half of 2022 from August.
On Tuesday, RBA also acknowledged that market economists expected the first interest rate increase in the latter part of the year. The Commonwealth Bank estimates that the lift in the interest rates will be released by the RBA as early as May 2022.
What We Can Expect
The interest rate for mortgages is expected to rise to 1 per cent at the end of the year and hit 1.23 per cent the following year, putting tremendous pressure on home buyers by adding hundreds on the expected monthly payments. The official interest rate has remained at a record low of 0.1 per cent since November 2020; this was a decision made by the RBA to soften the economic shock of the pandemic. However, at alarming signs of inflation now at a rate of 3.5 per cent, which is growing locally and around the globe, experts and a former board member of the RBA have warned of possibly four interest rate increases in the coming year.
Economist John Edwards, a former RBA board member, has stated that there would be no point in one increase, suggesting a slow and incremental increase in the interest rates. Progressively hiking the interest rates would allow people to gradually adapt to the blow of the rise of the interest rates. Mr Edwards also said that he expects the RBA would think a hike in May is perhaps too early to begin tightening but that by August, the whole system will be up and working towards their economic trajectory. Mr Lowe also expressed their intention to move on the rate hikes slowly in the event that it would put the economy more at risk.
The public is agitatedly discussing the hike rates, with financial markets aggressively pricing in a 1 per cent cash rate by October and a 2 per cent cash rate by May next year. Consumers are also picking up inflation pressures, in The ANZ-Roy Morgan weekly measure of consumer sentiment reveals a more excessive hike in inflation expectation, with respondents tipping it to reach 5 per cent.
The 1 per cent increase is a considerable hike from the previous 0.1 per cent interest rate, though, at first glance, it might not seem a lot. Now, a loan with a $500,000 standard variable rate mortgage would see an increase of about $275 in monthly repayments. AMP chief economist Shane Oliver and many other economists believe that the interest rate will most likely peak between 1.5 per cent and 2 per cent over the next 24 months. The same $500,000 now rises to about $560 in monthly repayments with a 2 per cent increase in rates. The interest rate hike is expected to significantly change people’s behaviours and impact the economic scenario. A home buyer with an $800,000 loan would be forced to fork out an extra $400-500 at a 1 per cent rise and as much as $1,000 at a 2 per cent increase, which would apply an incredible strain on the household expenses.
What Happens After The Hike?
National Australia Bank (NAB), one of Australia’s biggest banks, has predicted a drop in Australian property prices by about 10 per cent in 2023 due to the risk of rising interest rates. As a result, Australia’s housing market, growing at the fastest annual rate since the late 1980s, is likely to get hit by inflation and rising interest rates by the coming year. However, how mortgages will become more expensive can help calm down the rising demand for housing, potentially reducing house prices and balancing the housing crisis.
2021 was an unprecedented year for property, with many new players entering the market with the high demand for property and surging property prices. A property boom of this magnitude has not been seen since the mid-1980s. Gareth Aird, the Commonwealth Bank’s head of Australian economics, says that it is not just relatively these new homeowners that will be affected by the higher rates of interest because people on variable home loans would be immediately affected by the rate hike. At the same time, the rising cash rate would also catch up with those on fixed mortgages.
Mr Aird has said that at least 1 million homeowners have never experienced an interest rate rise. Furthermore, he also said there is about $500 billion worth of fixed-rate mortgages expected to close over the next 24 months, placing many borrowers at risk. As a result, Aird believes that borrowers rolling off fixed rates will be refinancing their loans at a higher interest rate, significantly impacting the interest cost of debt and household finances.
Household and business savings have reached an impressive $200 billion during the pandemic due to reduced spending opportunities. Treasurer Josh Frydenberg has reportedly said that the savings boost would provide a platform for Australia’s economic recovery and restoration from the worst of the pandemic. This could be the opportunity to tap into the savings made during the early months of the pandemic to good use so households can more comfortably assimilate with the hike in the mortgage interest rates.