It’s been a big day for interest rates. From the US, to Australia, talk of interest rate policies has dominated market news.
The US Federal Reserve was first to disappoint. An expectant market was kept in the dark over future policy as the Fed kept rates steady.
Our own Reserve Bank was on the defensive too.
The RBA downplayed speculation that low interest rates in Australia were fuelling house prices. Instead, it pointed towards housing undersupply as the main cause. Here’s what it said:
‘In the long run, even if mortgage rates were to remain low for an extended period of time, there should be a supply response to help move the market back into its longer-run equilibrium.
Indeed, the reduction in real mortgage rates since 2011 – following reductions in the cash rate – has been closely associated with both stronger housing price growth and strong dwelling construction more recently’.
The RBA isn’t wrong in saying that housing supply determines price growth. But it’s interesting that it’s paying more attention to this than it did a few months ago.
I believe the RBA is doing this on purpose. It’s preparing to lower rates again, perhaps as soon as November. I’ll explain why that is in more detail below. For now though I want to stay with the issue of housing supply.
Remember, Sydney’s perceived property bubble was a big factor in maintaining a 2% cash rate since May. Back then, the bulk of the blame fell on investors. Speculative investment was the root cause for surging house prices, or so we were led to believe.
Now the discussion is moving towards supply, and away from investors and low rates.
Yet the timing of this is curious for a couple of reasons.
For one, few can argue that low interest rates factor into rising house prices. Lower rates allow banks to flog cheaper mortgages. Low-cost borrowing is arguably the biggest concern people have when buying property.
When people set out to purchase a home, they rarely understand the deeper workings of the market.
What would you do? You’d look at house prices instead. You’d look at the cost of taking on a mortgage.
What you probably don’t think about is whether there are enough houses to go around. You’re not there to worry about things like that.
Of course, the RBA is tasked with figuring out how supply affects house prices. Why am I pointing this out? To show interest rates, and the cheap loans they promote, is what spurs investment.
House prices don’t rise unless people are buying. Because of this, interest rates influence buying decisions more than most other factors. It’s a benchmark the average person understands. And it’s psychological effect can’t be underestimated.
On a purely scientific level, the RBA is right in saying that housing supply affects price growth. But on a psychological level, interest rates are equally, if not more, responsible for pushing up demand.
At the same time, we could question the argument the RBA is making.
There’s no doubt supply and demand plays its part in determining price growth. But as we’ve seen with Sydney and Melbourne, this relationship isn’t always consistent.
Take Sydney first.
House and unit prices in Sydney rose dramatically over the past 12 months, rising 18%. Sydney is often cited as a market that has an undersupply of housing.
But Melbourne’s housing market always witnesses rising prices. Unlike Sydney, Melbourne has an oversupply of units. That didn’t prevent combined dwellings rising by 10% in the past year.
That means supply, while important, is perhaps not as significant as the cost of borrowing is for buyers. In other words, it might not be as important as the low interest rates.
This brings us to the point I made early about interest rates. The RBA’s timing of this statement on housing supply and interest rates is telling. I believe it’s gearing up for another rate cut…
RBA to lower interest rates again this year
The RBA made a number of references to rising population numbers in its full statement. It talked about a housing market under duress as Australia’s population expands in the future. It warned that, without new housing supply, bubble-like conditions in Sydney and Melbourne could worsen over time.
The RBA is pulling the wool over your eyes here.
What it’s saying about supply and price growth isn’t wrong. But central banks have a way of buttering up markets to serve their interests.
The RBA is merely deflecting the issue away from interest rates because it plans to lower them again.
It wants you to think that the root problem of price growth is one of supply and demand. Whereas the real issue is that easy credit, and cheap borrowing terms, are mostly responsible.
Why? Because it strengthens its hand when it decides to lowers rates again. That way, the rate cut will be all about spurring economic growth — and not the property market.
Right now, the RBA is paving the way for this. And we know as much because house price growth is slowing.
I wrote about this last month. Here’s what I said at the time:
‘Dwellings prices in Sydney rose 7.4% between June and August. Yet the property market only rose 1.1% in August. It means that less than one sixth of Sydney’s three month growth came in August.
‘The same is true of Melbourne, where prices rose 8% in the rolling quarter. Unlike Sydney, Melbourne saw no price growth during August.
‘That’s evidence enough, however temporary, that the market is slowing. And it should ease concerns over property bubbles in these cities.
‘Early signs the markets are cooling suggests APRA regulations are working. The prudential regulator has urged banks to cut back on lending growth. Banks responded by tightening lending restrictions for investors.
‘At first, there was little evidence of any major shift in lending growth. But August is the first month in which there is a noticeable slowdown in price growth. That could suggest that demand is slowing, which is keeping a lid on price growth too’.
There are emerging signs that house price growth is slowing. On top of this, other indicators point to surging construction growth. Combined, these factors offer the perfect excuse to lower rates again.
The RBA will need to cut rates again in response to Australia’s slowing economic growth. By October, we’ll have a better idea as to whether the Aussie economy is in recession. There’s a strong chance it will be. Either way, weak economic growth will sew the seed for another rate cut to boost economic growth.
US Fed doesn’t live up to RBA expectations
This whole time, the RBA was waiting for the moment when it could put off talk about cutting interest rates. It can’t anymore. Not when the US Fed failed to live up to its end of the bargain.
The RBA wanted to weaken the Aussie dollar. Doing that would boost an exporting sector in dire need of a leg up. A US interest rate would’ve provided that lift. Yet now that the Fed has more or less made sure that rates aren’t rising anytime soon, it’s back to square one for the RBA.
Now the RBA has to once again weigh up economic growth against property price growth.
But with housing conditions suggesting slower price growth, it opens the door for further rate cuts.
By November, I suspect the RBA will lower rates by another 0.25%. That may extend to a 0.50% cut to 1.5% by March.
Don’t let this talk of housing supply confuse the real issue. Interest rates have been critical to house price growth. The RBA is just trying to cover its back for when it inevitably cuts rates again. Anything to convince you that its not responsible for worsening housing affordability.
Contributor, Markets and Money
PS: Markets and Money’s Phillip J. Anderson says low interest rates are here to stay. He believes rates will remain at historic lows. Phil’s brand new report, ‘Why Interest Rates Could Stay Low for the 21st Century’, is a warning to all investors.
In it, Phil proves why you can’t rely on your savings for your retirement. Inflation stemming from low rates is eating into your savings. The regular return on term deposits has halved in the last four years alone.
But there is another way forward for you.
Phil’s will show you the best way to invest your cash amid historically low rates. He’s prepared a four-step strategy that could boost your wealth. You’ll learn where to park your cash over to benefit in the coming decade. And you’ll see how this could lead to immeasurable profits. To download the report, click here.