With the cash rate at 0.1%, the Reserve Bank of Australia and the Australian Prudential Regulation Authority are prepared to tighten lending standards in fears of a housing boom. The RBA has also engaged in a program of quantitative easing to offset the recessive impact of the pandemic with no expectation to raise interest rates for at least 3 years. A research paper into low interest rates found that the current conditions are lowering the cost of borrowing, underpinning the increased demand for assets that has resulted in higher prices of houses. In a phenomenon know as the wealth effect, higher asset prices should push up individual wealth and translate into increased spending. Additionally, "low rates are also supporting government borrowing and subsequently the economic recovery," with the Federal Government looking to borrow an additional $77b this financial year, on top of the record Federal debt of $808b.
Research by RBA economists indicate that a ‘permanent’ cut in official interest rates can push up real house prices by 30% over a 3-year period where a ‘temporary’ reduction in interest rates would drive real prices by 10%. A report by CoreLogic reveals that despite the deepest recession since 1930s, Sydney’s house prices have lifted through 2020 by 4%, averaging about $1 million.
However, record low interest rates put new home buyers in risk of negative equity with small deposits relative to the size of loan or taking on too much debt from an imposed ‘optimistic assessment of risk’. Loan-to-valuation ratios are increasing but are below the levels in 2015 that prompted APRA to tighten lending standards. If prices continue to rise, people may be purchasing houses at the top of the business cycle and when that cycle corrects, most of the national mortgage book was ‘likely to be in negative equity’.
The Council of Financial Regulators (CFR) comprising of the RBA, APRA, Treasury and ASIC, will be monitoring risk levels and intercede if required.
