Two rate hikes and a potential third set to dampen housing trends

Key takeaways

The RBA has turned more hawkish, with consecutive rate hikes and strong expectations that the cash rate will rise to around 4.35% by May, reversing earlier cuts.

Higher interest rates are already reducing borrowing capacity and increasing mortgage costs, putting further pressure on housing affordability and demand.

Inflation remains stubborn, driven by housing, energy, and structural factors, meaning the RBA may need to tighten further, increasing the risk of a sharper economic slowdown.

As widely expected, the Reserve Bank of Australia (RBA) hiked rates for the second straight meeting, lifting the cash rate to 4.1% (from 3.85% previously).

The consensus across banking sector economists and financial markets is another hike in May, which would fully reverse the 2025 interest rate cuts.

This second hike for the year represents a much more hawkish stance from the central bank, given that there has not been sufficient time following the February rate rise for any of its impact to appear in official data.

Sentiment around the RBA monetary policy meeting shifted rapidly over the past two weeks, with public statements from both Governor Bullock and Deputy Governor Hauser warning of inflationary pressures, tight labour markets and economy wide capacity pressures.

In addition, the impact of higher energy prices as a result of the Middle East conflict added further upside risk to inflation forecasts.

This led to a rapid shift in forecasts from market economists, with each of the big 4 banks’ economics teams expecting the cash rate to reach 4.35% by May, along with a spike in financial market pricing.

In the December quarter, the average size of a new mortgage stood at around $730k.

For a mortgage of this size, the full pass-through of this latest rate hike will increase monthly repayments by $117 per month, or $54 per fortnight.

Similarly, this rate increase reduces the borrowing capacity of potential buyers.

For a household earning the median income applying for a 30-year mortgage at typical market interest rates, borrowing capacity will be reduced by almost $18k after this RBA decision.

Headline inflation rose by 3.8% yoy in January, and the housing sector remains a key contributor, with the broad housing component increasing by 6.8% yoy.

This reflected a 32% yoy increase in electricity costs (as the impacts of expiring electricity rebates drove a huge rebound in costs to households), a 3.9% yoy increase in rents and a 3.5% yoy lift in new dwelling prices.

More broadly, the RBA faces a significant challenge in controlling the recent uptick in inflation, given that around half of the contribution to headline inflation was driven by administered and indexed prices (which rose by 7.8% yoy in January and are not particularly responsive to changes in policy rates), despite these components accounting for around one-quarter of the total CPI basket.

To bring overall inflation back to target, the RBA needs to slow market prices to a much lower rate, which increases the risk of a hard landing for Australia’s economy.

Note: This tightening is likely to continue to cool demand in the property sector overall but may further increase competition within the lower quartile property segment.

Cotality’s national Home Value Index rose by 2.1% in the three months to February, but across the country, properties in the lower value quartile rose by 3.2%, as buyers continued to seek affordability.

While the future direction of interest rates appears higher, there remains uncertainty as to how high. 

Pricing in the interbank cash futures market last week implied at least one further hike from the RBA this year, while the outlook from big 4 bank economists are consistent in anticipating another rate rise in May.

This would fully reverse the rate cuts implemented in 2025, returning the cash rate to 4.35%.

About Gerard Burg Gerard is the Head of Research for Cotality Australia. He is a highly accomplished senior economic analyst with over twenty years of research experience across a diverse range of specialities