The Reserve Bank duly delivered another 0.5% rise in the official cash rate (OCR) today, as had been widely expected, taking it to 2.5%. This is the highest OCR level in more than six years when it was cut from 2.5% to 2.25% on 10 March 2016. With inflation still a big problem and employment high, there were no barriers to today’s OCR change and it was probably a simple decision to make.
It seems reasonable to think that today’s move will be followed by another 0.5% rise on 17 August, before a couple more 0.25% increases in October and November to take the OCR to 3.5% by the end of the year.
The question remains; could the OCR keep rising next year? The Reserve Bank has certainly indicated a peak of around 4%. But one problem with monetary policy is inflation only responds to OCR changes with a lag, today’s move may only impact consumer prices next year. And with the risks lingering that the economy could hit the skids sooner than anticipated, an OCR peak of 4% is not guaranteed.
In terms of the housing market implications, the current monetary policy tightening cycle is sustaining the upwards pressure on mortgage rates and the downwards pressure on property values. We’ve already seen popular one-year special (high equity) fixed rates rise from a range of 2% to 2.5% only a year ago to the 5% to 5.5% mark now. In terms of annual mortgage repayments, this equates to an extra $2,050/year or so for every $100,000 of debt.
This will be testing the finances of all borrowers, let alone those new to the market, and may mean the affordability equation doesn’t improve much, even as incomes rise and house prices decline. Indeed, as the table below shows, another 1% increase in mortgage rates (5.1% moving to 6.1%) over the next year, alongside a 10% drop in house prices and a 5% rise in income, would still leave the average new borrower paying 43% of their income on a mortgage – only a touch lower than 45% now. In Auckland, that would still be 49% (albeit better than 52% currently).
Annual mortgage payments as % of gross average household income – 80% LVR, 10% further fall in house prices, incomes rise 5% by mid-2023
Now – mortgages 5.1%
Mid-2023 – mortgages 5.6%
Mid-2023 – mortgages 6.1%
Some existing borrowers will have challenges too, and many are yet to see the full effects, given they’ll still be on fixed rates taken out a while ago (unless they’ve broken early in order to avoid even higher costs in future). But with 46% of existing NZ mortgages (by value) currently fixed and due to reprice in the next 12 months, these effects will be starting to show through. It’s worth noting RBNZ figures showing the average mortgage rate on existing loans is still only 3.2%.
To be fair, we’ve already seen the major lenders cut some of their mortgage rates lately, especially for the two-year fixed specials, as global wholesale rates have fallen. Competitive pressures in a quieter overall property market (and the focus on keeping existing customers) has probably also played a role in mortgage rates falling, as well as cashback offers increasing.
So have mortgage rates peaked already? On balance, given the prospect that our OCR will keep going up for a while yet and inflation globally is not yet tamed, it seems unlikely that we’ve seen the end for mortgage rate increases in this cycle. The reversal of the Large Scale Asset Purchase Programme is another uncertainty here too. But competitive pressure in the banking sector should tend to cap any further increases, and we’re certainly closer to the end than the beginning.
All in all, there were no surprises today and it seems likely the property market will continue to face a testing period for the rest of 2022 and into 2023. Low unemployment remains a key support, but any signs of job losses coming through would tend to increase the eventual size of this downturn in property values.