RBA holds cash rate at 1.5% but mortgage rates could still rise

The Reserve Bank of Australia today kept the cash rate on hold at 1.5% for a record 20th meeting.

This is of little surprise given some of the underlying weaknesses still prevalent in the Australian economy; a 0.4% decline in the Australian housing market in the year to May, weak wages growth (2.1%), high underemployment (8.3%) and core inflation at the lower bound of the RBA target range (2.0%).

Financial markets are not fully pricing in a rate hike until October 2019.

That is despite the latest RBA forecasts suggesting headline inflation will reach 2.25% by the end of this year and unemployment will fall to 5.25%. From a housing market perspective, a stable rate environment is positive.

However, there is risk that mortgage rates could rise, regardless of the steady cash rate, due to higher funding costs being faced by lenders overseas.

At the end of May, standard variable mortgage rates for owner occupiers remained at their lowest level since 1965, averaging 5.2% and the average discounted rate is tracking even lower at 4.5%. The average three year fixed rate is lower yet again at 4.15%. Even if mortgage rates do rise, they are still well below the twenty year average of 6.8%.

Despite mortgage rates being low, activity in the housing market has slowed since 2015. CoreLogic's latest estimates indicate the number of settled residential property sales is down 7.7% year on year and transaction numbers are 15.1% lower relative to the recent 2015 peak.

Although interest rates are set to remain on hold for the time being, the availability of housing credit has tightened substantially, which is the primary driver of slower housing market activity and falling home values.

The latest figures on housing credit show the monthly rate of growth, at 0.43% is the lowest since June 2013, dragged down mostly by less lending for investment purposes.

Credit policies are likely to remain tight, if not even tighter, with APRA advising lenders to focus more on reducing their exposure to high debt to income loans. As a result, we expect housing market conditions to continue their slow decline, at least from a macro perspective.

Since peaking in November last year, national dwelling values are down 1.1%. There are exceptions to this national picture, with dwelling values in Brisbane, Adelaide and Hobart at record highs.

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