Newsletter - Spring 2022 - 1

To support economic activity at the start of the pandemic, the then Federal Government and Reserve Bank of Australia (RBA) went into crisis mode and introduced several initiatives to enable people to maintain their loans and to take out new loans. But there were no counter measures put in place to prevent a spending spree and that is exactly what occurred, pushing up property prices and loan sizes.

A major brake on excessive lending was removed by APRA in July 2019 when it allowed banks to reduce their floor assessment rates. Now we know the consequences; this set off an unprecedented price boom in the major housing markets of Sydney and Melbourne, and echo booms in many regional centres impacted by population shifts as some priced-out borrowers moved from the cities.

But now many are learning to live with the consequences; how to borrow enough money to be even able to afford to purchase a property, and for those who purchased during the boom, how to cope with sharply rising interest rates and possible sharp declines in property prices.

Borrowing capacities have declined by up to 28% since January 2021 and are expected to fall by another 3 to 4% by the end of this year.

I have prepared two examples to demonstrate the scale of the impact.

Case Study 1 – Single First Home Buyer

Borrower: single graduate professional earning $95,000 pa
Borrowing requirement: split loan facility (50% variable rate / 50% 3-year fixed rate)

Case Study 2 – First Home Buyer Couple

Borrower: graduate professional couple earning combined income $120,000 pa
Borrowing requirement: split loan facility (50% variable rate / 50% 3-year fixed rate)

This decline in borrowing capacities has been caused by several factors:

• Rises in variable rates of more than 2.0% pa since May 2022

• Rises in fixed interest rates by up to 4% pa since October 2021

• Cost of living increases of 5.5% pa

• Sharper lending rules introduced in 2021 in relation to assessment of living expenses

• Increase in the assessment buffer mandated by APRA in November 2021

Likely Effects of Reduced Borrowing Capacities

The major consequence of this curtailing of borrowing capacity is expected to be a significant decline in property prices. CoreLogic is already forecasting a drop of 12 to 15% in property prices by the middle of next year, and recently ANZ economists predicted falls of up to 20%.

 CoreLogic is already forecasting a drop of 12 to 15% in property prices by the middle of next year.

So, there are going to be ongoing challenges for borrowers to enter the property market – many prospective homeowners are going to need to be patient, or to adjust their aspirations as it will take time for the housing market to accommodate borrowing conditions which have changed dramatically and rapidly.

Fortunately, some of these effects will be attenuated by other factors. Most people do not borrow to their absolute limit, and many will be insulated from the impact of rising interest rates by their decisions to lock in their interest rates at low levels for the next 2-3 years. But the adjustment for prospective borrowers, homeowners and the housing market will still be profound.

References

Hegarty, N. & Richardson, C., 20 July 2022. Treasurer announces biggest review of Reserve Bank in decades. ABC Radio.

 Kehoe, J., 6 March 2019. 'Wealth effect' limited to cars, furniture. Australian Financial Review.

 Maley, K., 8 May 2021. How Australia’s property obsession warps the economy. Australian Financial Review.

 Houses and Holes, 4 August 2022. Data screams at Lunatic RBA to stop hiking. MacroBusiness.

 CPA Australia, 7 June 2022. RBA's fight against inflation hampered by quarterly CPI reporting.

 Sweeney, N., 16 August 2022. Sydney house prices to fall 14pc this year: ANZ. Australian Financial Review.

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