A slowdown in housing market conditions has helped to alleviate some of the pressure to raise the cash rate, as the Reserve Bank of Australia (RBA) today left the cash rate unchanged at a record low of 1.5%.
The fresh round of macro-prudential policies announced in late March have resulted in tighter credit policies and premiums on mortgage rates for investors and interest only borrowers.
Tougher lending conditions have arguably had a similar effect as a lift in the cash rate, except the effect is more focused on slowing investment activity across the housing sector while low interest rates continue to provide a broader and much needed economic stimulus.
Since the latest policy announcements from APRA at the end of March, the monthly and rolling quarterly growth rate across Australia’s hottest housing market, Sydney, has turned negative. The annual growth rate has more than halved, from a recent peak of 17.1% over the 12 months ending May 2017 to just 7.7% over the year ending October.
Housing market conditions have also slowed in Melbourne, but not as sharply as in Sydney.
Considering the household savings ratio is at a 5 year low of 4.6%, and an increasing amount of debt is concentrated in residential mortgages, household balance sheets will be tested when interest rates eventually start to rise.
Household budgets are already thinly stretched: subdued demand is evident in weak retail spending (down 0.3% in the September quarter) against a backdrop of record low wages growth of 1.9%, and rising energy costs.
It is highly likely that a lift in the cash rate would further dampen household consumption, potentially leading to slower economic growth and fewer new employment opportunities.
Low consumer price inflation should help to offset stress across the household sector, however rising housing prices have caused many households to dedicate more of their income towards servicing a mortgage despite the low rate environment.
Based on CoreLogic affordability measures, which utilise household income estimates from the Australian National University, Sydney households are dedicating an average of 48.4% of their gross annual household income to servicing a mortgage (based on an 80% loan to valuation ratio and discounted variable mortgage rate), while nationally households are dedicating an average of 37.2% of their gross annual incomes to service a mortgage.
Keep in mind these measures are for owner occupier mortgages which currently enjoy record low rates, so if interest rates were to rise it would likely suck demand out of the economy with mortgagees spending a higher proportion of their income to service mortgage debt.