RBA set for higher ‘Neutral’ cash rate

Earlier this week the Reserve Bank of Australia released the minutes of its July meeting, in an attempt to highlight the reasons behind the central bank’s decision to leave the official cash rate on hold at 1.5%.

While concerns around rising electricity prices, underemployment, poor wage growth and consumer spending were highlighted by the board, it was the position taken on housing which is worthy of note. The RBA board noted that Australia’s two hottest property markets of Melbourne and Sydney had softened recently, while house prices in Perth continued to fall further.

Over the past two years, Melbourne and Sydney prices have risen by 14 per cent and 12 per cent respectively. This is an extremely high rate of growth, which couldn’t have been expected to continue indefinitely, and therefore the RBA’s mention of a recent softening in those markets is a welcome reprieve.

Westpac chief economist Bill Evans believes an increase of 200 basis points may be too high.
3.5% ‘Neutral’ cash rate

The RBA continued its’ recent push to soften up the Australian public to an eventual rate rise, by signalling that the ‘neutral nominal cash rate’ would need to rise 2 percentage points from their current level to keep inflation in check, and growth at reasonable levels. There was no indication given of a timeframe for this rise.

These predictions for a higher cash rate should be taken into account by both investors and owner-occupiers, given the RBA’s clear indication of a new neutral nominal cash rate target of 3.5%.

Banking and housing industry insiders were quick to respond to the release of this information, with many believing that the estimated 200 basis point increase was too high and would damage large sectors of the economy.

“If the mortgage rate increased by a further 200 basis points, the evidence of 2011 suggests that house prices would likely fall – hardly what one might assess as a neutral policy stance” – Bill Evans, Westpac’s chief economist.

Too early for APRA crackdown results

Board members also noted that it was too early to tell if the crackdown on home investor lending by the banking regulator, (The Australian Prudential Regulation Authority) had had their full effect. The regulator launched a string of tough new measures in April designed to slow house price growth and help address the risks associated with rising levels of indebtedness.

Despite the RBA’s efforts to manage expectations, concerns remain that anything but a gradual increase would leave indebted borrowers in Sydney, Melbourne and Brisbane struggling to meet higher mortgage repayments. Given no time frame was mentioned, it remains to be seen what impact the RBA will have on the real estate industry over the coming 12 month period.