Mortgage Rates Drive Home Prices Up

Mortgage Rates

According to a report from CoreLogic, the prevailing low interest-rate environment has played an important role in the housing rebound and the broad-based economic recovery from the pandemic-induced slowdown,

Key rates for the residential market – the cash and short-term mortgage rates – are likely to remain low. It is highly unlikely that the Reserve Bank of Australia will take action to rock the boat and change its policy settings any time soon as economic recovery moves at a sluggish pace.

The persistent low rates reflect the tepid job market and dim prospects for wage increases. Simply put, the labour market favours employers at the moment. As such, wages are unlikely to increase to a level that supports inflation, moving within the 2%-3% range until at least 2024.

In March, the annual change in inflation was about 1.1%. Wage growth hit a mere 1.5% over the year to March.

Surging Home Values

The low-rate environment attracted more and more borrowers to the housing market, pushing property prices up. As a result, Australian home values rose for the eighth straight month in May, hitting record highs month after month in 2021.

Over the past year, home prices in major regional areas grew by 11.8%, exceeding the national average of 10%, data from Knight Frank shows. Here’s a breakdown of capital house growth per major regional area over the year ending March 2021:

  • Capital growth for houses in regional New South Wales rose 15.3% to a median value of $665,500
  • Capital growth for houses in regional Victoria increased 10.6% to a median value of $534,000
  • Capital growth for houses in regional Queensland up 9% to a median value of $495,000
  • Capital growth for houses in regional Western Australia picked up 9.5% to a median value of $433,500
  • Capital growth for houses in regional South Australia up 6.4% to a median value of $435,000
  • Capital growth for houses in regional Tasmania posted double-digit growth of 11.4% to a median value of $369,500

The steady increase in home prices raised household wealth for some. It may have also contributed to increased consumer spending that the economy badly needs.

But the gains from the housing market have not been evenly distributed, and pockets of risk may be developing. Growing household debt suggests more households are borrowing their way into the housing market.

The growing participation of investors in the housing market may also pose a risk. In March, investor home lending value rose at the fastest pace since July 2003. Currently, investors represent 26% of mortgage demand. But if this pace of growth is sustained, investors may end up commanding a greater share in this market.

Growing speculative activity by investors and deteriorating credit standards can prompt the RBA to take action. When push comes to shove, they might consider tightening the flow of credit to cool the housing market.

In May, forecasts from the Reserve Bank of New Zealand signalled that it may start dialling up interest rates from late-2022. The US Federal Reserve also hinted at a potential tapering of quantitative easing as the economy recovers from the pandemic.

The recent outbreaks have demonstrated the fragile state of the economy. While more people are getting vaccinated, the unpredictable nature of the unfolding health crisis can dampen attempts at recovery.

The central bank is keeping an eye out on these developments. But once the situation is in steadier waters, it may review its current policy settings. Any move away from the prevailing low-interest-rate environment is likely to be gradual. A sudden unwinding can ripple through the fragile system and undo the progress achieved so far.

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