With the RBA cash rates expected to rise this year, AMP Chief Economist Shane Oliver shed some light on how this is affecting homeowners and buyers.
What is the cash rate?
According to the Reserve Bank of Australia, the Cash Rate is “the interest rate on unsecured overnight loans between banks. This is the (near) risk-free reference rate (RFR) for the Australian dollar.
Sometimes referred to as the “base interest rate”, the cash rate is determined by the Reserve Bank of Australia at a meeting of the board of directors every month (except January).
This rate is the base rate applied to loans between financial institutions (such as banks), and it can have a significant impact on the price of financial products.
In Australia, a high RBA cash rate has always resulted in high interest rates on home loans, car loans, personal loans, savings accounts, term deposits, etc. Similarly, a low cash rate results in low interest rates on these products, which is good for borrowers but not for savers.
As it stands, Australia’s current exchange rate is 0.10%, and has been since November 2020, which is an all-time low. The infographic below shows the recent history of Australia’s exchange rate.
The latest RBA meeting did not result in any changes to the cash rate, but there is strong speculation of a rate hike to come.
The cash rate has not been increased since November 2010.
What is a rate hike?
A rate hike occurs when the RBA raises the cash rate, to slow lending.
AMP Capital’s chief economist, Shane Oliver, told Savings.com.au that a rate hike is a sign of a rebound in the economy.
“A rate hike is a response to the economic recovery which has happened faster than the RBA expected,” he said.
“We have seen a drop in the unemployment rate and an increase in inflation.
“The rate cuts we saw at the start of the shutdowns in 2020 were designed to support the economy. Now that the economy is reopening, it is appropriate to see these emergency rates removed.”
Mr Oliver said AMP Capital expected the RBA to raise the cash rate in August 2022, but would not expect an increase as early as June.
“We say August, but it could be as early as June, depending on wage data that will be out in about two weeks.”
What does this mean for the economy?
Oliver pointed out that a rate hike is actually a positive sign for the economy.
“Typically, interest rates fall when the economy slows, and inflation is low, widespread and slow,” he said.
“So the fact that we’re talking about their ascension is actually a good sign that we’re going back to something more normal.
“Obviously higher interest rates are acting as a drag on things.
“Money isn’t as cheap, so you pay more to borrow money, which slows down lending – potentially the amount of money you can borrow goes down.
“And that also reduces the purchasing power, not only of households, but also of businesses. And that can lead to slower economic growth at some point.”
How does this affect home owners?
Home loan rates are closely tied to the cash rate – the lower the cash rate, the lower home loan rates will be as lenders fight and drop to offer the most competitive rates in the market.
This means that if you have a variable home loan, your repayments will likely increase with rising RBA rates.
Mr Oliver said around 70% of mortgages in Australia are variable rate.
“The hard break is about 30% of existing mortgage debt to homeowners at fixed rates and 70% at variable rates. So right now with suspended rates there’s not much impact on them,” he said.
“The real impact will come when the Reserve Bank starts raising interest rates later this year.
“They might see an increase in the interest rate charged on their mortgage… [and] an increase in the amount of money they must allocate to service their loan. »
Mr Oliver said many homeowners were able to take advantage of this period of low rates to advance on their mortgage.
“Some people have built buffers,” he said.
“During the lockdowns people tended to save more, they couldn’t spend as much and couldn’t go on holiday. And as a result you have a large chunk of Australians who are ahead on their mortgages.
“Others, however, who have not used the period or have not been able to use the last two years to advance on their mortgage will face a little more pain, they will have to face service charges. higher debt.
Recent data from APRA shows that the average homeowner is four years ahead of their mortgage.
How does this affect homebuyers?
Mr Oliver said a rise in cash rates could put downward pressure on the housing market.
“There will be fewer people buying because you have this kind of double whammy in the real estate market for affordability because housing is more expensive, but also higher interest rates, which means new borrowers can borrow less and therefore have to pay lower prices,” he said.
“This can mean downward pressure on prices or a slight slowdown in the rate of price growth.
“Last year property prices around Australia were up 22%. This year could be down around 3% – a more subdued property market.
“Later in the year or as we approach 2023, house prices could come down a bit. We’re looking for a pullback of 5-10%.”
“Higher interest rates – ultimately they’re a good sign of economic recovery, but it can also mean slower economic growth… put[ting] a bit of a drag on the real estate market.”
How are lenders/banks adapting?
Banks and lenders don’t need to follow the RBA’s cash rate closely, and many have already raised fixed mortgage rates over the past year.
Mortgage broker Aaron Christie-David said banks were “pulling” customers into variable rate home loans.
“Banks have definitely lowered their variable rates while raising their fixed rates…apparently to attract customers,” he told Savings.com.au.
“More people are choosing to repair because they see rates continue to rise. It seems counterintuitive because fixed rates are higher, but customers are opting for security for the next few years.”
See also: Fixed or variable mortgages
Image by Joshua Earle via Unsplash