Understanding the Relationship Between Interest Rates and Property Values
Cash Rate and Interest Rate Trends
One of the Reserve Bank of Australia (RBA) main tasks is maintaining annual inflation within the target range of 2-3%. It does this by adjusting the cash rate and in turn interest rates based on various economic factors, such as domestic consumer demand and outside global factors.
Over a long enough timeline, interest rates will naturally fluctuate, reflecting the dynamic nature of Australia’s economy and changes in monetary policy.
Stabilising inflation is crucial for maintaining the value of the Aussie dollar, enabling businesses and households to make better decisions about financial planning which has a flow on effect to a well-functioning macroeconomy.
I’m sure those of you that held mortgages in January of 1990 remember, Australia experienced its highest interest rate period (topping out at 17.5 per cent) as the RBA sought to control inflation, leading to relatively high cash rates. As the economy improved, interest rates gradually decreased and stabilised between 5 per cent -7 per cent from the mid-1990s to 2008. For property investors during this time, mortgage rates were typically between 7 per cent – 9 per cent, higher than today’s current 6 per cent rate.
Flashback to the 2010’s and interest rates decreased, contributing to economic growth and property price booms. Recently throughout the Covid19 global pandemic, Australian rates remained at low levels with the cash rate bottoming out at a historical low of 0.1 per cent in November 2020. This remained the case for nearly 2 years until May 2022. Since then, the cash rate has risen significantly from 0.1 per cent to 4.35 per cent due to surging inflation, peaking at 7.8 per cent annually in December 2022.
Interest Rate Predictions
Historical data has led many well-known economists, including those at the Big 4 banks, to believe that the cash rate and interest rates have peaked and will soon begin to decrease. The timing of these expected cuts will depend on the RBA’s target inflation rate range and their confidence in stabilisation.
The rapid rise in the cash rate since May 2022 has produced a steady decline in inflation, from 7.8 per cent in December 2022 to 4.1 per cent in December 2024. Our modelling and trend analysis predicts inflation will fall below 3 per cent by June 2024 and could fall below 2 per cent by December 2024 if the cash rate remains steady.
Despite the uncertainties, it’s possible that the RBA could start cutting rates as early as June 2024 to prevent inflation from dropping too low. Once cuts begin, they could occur in a series, potentially reaching 3 per cent by 2025. This aligns with predictions from the major banks, forecasting the cash rate to reach 2.85 per cent by June 2025 (CBA), 3.60 per cent by June 2025 (ANZ), 3.10 per cent by November 2025 (NAB), and 2.85 per cent by December 2025 (Westpac).
So, what does it all mean for your Property investment journey? (Impact on Property Prices)
Interest rate cuts can significantly affect property prices in several ways:
- Increased affordability: lower interest rates reduce borrowing costs, making mortgage repayments more manageable. This entices more buyers into the market, driving up prices. We’ve seen an increase in investor buying activity in the months since interest rates have stabilised resulting in property price growth across the major capital cities.
- Boosted consumer sentiment: Interest rate cuts can increase consumer confidence and spending, leading to increased activity in property investment and a stronger property market. The Westpac-Melbourne Institute Consumer Sentiment Index in Australia jumped 6.2 per cent to 86 in February 2024 from 81 in January, the highest reading in 20 months amid easing inflation and optimism that the RBA has concluded its tightening cycle.
- Demand surges amid supply constraints: on the demand side, population growth remains high, particularly in major cities (currently projected to increase by 1 million migrants over the next 3 years), increasing housing demand. On the supply side, new housing construction activity remains below long-term trends, 20 per cent below the pre-pandemic average, putting additional pressure on prices.
All this indicates that now is a good time to be an investor!
How Rate Cuts Affect Borrowing Capacity
When interest rates drop, your borrowing capacity typically rises. It’s important to note that the extent of this increase varies due to individual circumstances and various factors. For personalised insights into how rate cuts affect your borrowing capacity, consult with a specialised investment finance broker.
It is a real pleasure helping individuals and families to realise their financial capabilities and empowering them to make decisions to improve their future. If you’re uncertain what the current interest rate climate means for you and your family.