RBA rate hike deepens housing market headwinds as borrowing power shrinks

Key takeaways

The cumulative impact of rate rises since February has reduced borrowing capacity by almost $90,000, significantly constraining buyer purchasing power.

Higher interest rates are expected to keep housing demand and transaction activity subdued through weaker affordability and reduced borrowing power.

A meaningful housing market recovery is unlikely until borrowers gain confidence that interest rates have reached their peak and will eventually begin to fall.

The Reserve Bank's decision to lift the cash rate by a further 25 basis points is expected to place additional downwards pressure on housing demand, extending the market slowdown that has emerged during the current tightening cycle.

The increase was widely anticipated, with inflation remaining too high and recent inflation outcomes stronger than the RBA had expected.

Although labour market conditions have eased, unemployment remains low by historical standards and broadly consistent with an economy operating close to full employment.

Recent employment gains and persistently high participation rates suggest labour market conditions are easing only gradually.

More broadly, the RBA has indicated that aggregate demand will need to remain subdued for a period to reduce capacity pressures and return inflation sustainably to target.

What does the latest rate hike mean for the housing market?

For housing markets, the latest rate increase is likely to reinforce the downturn that has emerged as the cash rate has moved higher.

Cotality's national Home Value Index peaked in March, one month after the commencement of the current rate hiking cycle.

Since then, housing values have trended lower as borrowing capacity has reduced, affordability pressures have intensified and recent taxation policy changes have weighed on demand across some market segments.

How much borrowing power have buyers lost?

Rising mortgage rates have progressively reduced borrowing capacity and weakened housing demand, while consumer sentiment remains deeply pessimistic.

Based on a median household income, the cumulative impact of the four rate hikes since February has reduced borrowing capacity by almost $90,000, equivalent to around a 9% decline in purchasing power.

The increase in borrowing costs comes at a time when household debt levels remain high.

Household finance ratios for the June quarter show housing debt at 134.9% of household disposable income, highlighting the extent to which many borrowers remain exposed to higher interest rates relative to income levels.

For many households, higher mortgage repayments are adding to already significant cost-of-living pressures.

Should the RBA follow today's move with another increase in November, housing conditions would likely weaken through an additional reduction in borrowing capacity, as well as a further deterioration in home loan serviceability and sentiment.

Housing turnover is likely to remain below average as both buyers and sellers adjust to a prolonged period of elevated borrowing costs.

When could housing markets recover?

Attention will now focus on whether today’s increase marks the peak of the cycle and, if so, how long monetary policy remains restrictive.

Even if today's increase proves to be the peak of the cycle, housing markets are unlikely to find meaningful support until there is greater confidence that interest rates have stabilised and an easing cycle is approaching.

Until then, housing demand is likely to remain weak, reflected in further value declines and below-average levels of turnover, although ongoing supply constraints should help contain the extent of any downturn.

About Tim Lawless Tim is Research Director at Cotality (formerly CoreLogic), analysing real estate markets, demographics and economic trends across Australia. Visit www.corelogic.com.au