April 17, 2023 by Dymphna

What happens if the RBA hikes again?

Could a recession actually be good for property prices?

So… where do interest rates go from here?

CBA’s economists raised a few eyebrows this week when they predicted that by the end of the year, the RBA will be cutting rates.

In their opinion, the RBA has pushed things too far, the economy is set for what they’re calling a ‘hard landing’ (= recession), and the RBA will have no choice but to start cutting rates again.

But what would that mean for property prices?

Interest rates have a big impact on property prices. Some banks estimate that as much as 75% of property price movements can be explained by changes in interest rates, though I doubt the figure is quite that high myself.

And RBA Governor Phil Lowe recently shared a chart showing that even though Australia’s official cash-rate hasn’t risen as much or as fast as in other countries, the interest rates facing mortgage holders have, in fact, risen much more quickly. This is because the majority of mortgage rates in Australia are variable, rather than fixed, as is the case in other jurisdictions.

However, one of the things that makes forecasting a little tricky at the moment is that an unusually large share of the market went on to fixed rates during Covid.

Government policy made fixed rates exceptionally cheap during 2020, and many borrowers locked in record low rates.

However, those fixed rate periods are now expiring, and in the next few months, a very large number of borrowers will be forced to refinance at much higher rates.

This has become known as the ‘mortgage cliff’. Betashares chief economist David Bassanese reckons that the cliff is worth a full five 25 basis point interest rate hikes!

“The higher than usual expiry of fixed-rate mortgages over the coming two years will result in de facto policy tightening (at least on the mortgage sector) equivalent to around one third of the policy tightening already seen over the past year.”

And this is what the CBA are pointing to. Even if the RBA holds and continues to hold through the year, there is some monetary policy tightening already loaded into the pipeline.

So monetary conditions are going to get tighter.

… when they probably don’t need to.

And that’s what’s going to tip us into recession. That’s what’s going to give us our hard landing.

And that’s what’s going to give us rate cuts by year’s end.

And if that happens?

Well, you’ve got two opposing forces working on property prices. You’ve got a slowing economy put downward pressure on prices.

And you’ve got cheaper interest rates, putting upward pressure on prices.

But this is the thing. Those two things are not equal. Interest rates dominate.

In the hard-landing scenario, property prices will rise.

And this points to one of the less-well-known features of the property market – over certain time-horizons, property prices are counter-cyclical. That is, when the rest of the economy is slowing, prices can be rising, thanks to the impact of interest rates.

It’s why property is seen as such a safe asset class.

DB.