In an address to ‘Bloomberg Inside Track’ 23/09/21, Australia’s Reserve Bank Assistant Governor (Financial System) mentioned the Australian housing market and it’s impact on financial stability. In recent articles that you may have read of mine, I discussed the concern that banks and Government authorities had at present around household debt to income ratios (DTI). With the rapid rise in house prices, not likely to abate until say middle 2022, households have had to borrower larger volumes to purchase properties, but have not necessarily seen their wages grow pro rata. At present in a low interest rate and low inflation environment this may not be as pressing a concern. However, what happens as economies emerge from the Covid lockdown, as they will eventually, because Governments and societies will learn better how to manage the pandemic and will accept certain levels of associated risk? The Government and households need to be prepared for possible negative impacts from economies ‘stirring’ into life. There are a few key points to note that are interrelated and will directly effect households cash flows:-
Governments via their central banks (RBA Australia/USA Federal Reserve) have now indicated a winding back of cash stimulus into economies. This was referred to as ‘Quantitative Easing’
The cost of money is likely to rise, triggering a rise in inflation and interest rates.
Home values stabilise and/or recede as supply and demand conditions adjust.
Thinking about the above, and knowing we have been in a low interest rate/falling interest rate environment since the Global Financial Crisis (GFC) 2007, what’s the impact on household finances if rates rise by say 1% and we know household debt levels are at their highest level? That’s a rhetorical question of course as we know household savings will be depleted and their consumption may fall as a higher percentage of wages are committed to loan repayments. In an example a 500k home loan at 2.50% over 30 years equates to $1975 per month. At 3.50% the monthly payments rise by $271. If the cost of borrowing rises and home prices experience a correction, households may feel less positive about spending and also about borrowing. Property investors will also be less likely to purchase in times where interest rates are rising and/or property prices are stagnant. Sentiment can change.
Governments are concerned because 60% of bank lending in Australia is held in home mortgages. On top of that some business lending is also supported by mortgages over homes, so that overall connected percentage is much higher.
Over the next 12 months, we will likely see banks and governments focusing more on areas around loan serviceability and perhaps placing prudential limits on debt to income ratios? At present banks have warning flags with DTI’s but they can be overridden.
So what can you do about the above as a borrower? Be prepared is the answer. Obtain prudent advice that relates to your own personal position and that may mean fixing your loan interest rate as an example? Review your budget. Review your overall financial position.
If you have any questions contact Michael on 02 6583 2211.