The majority of mortgage holders are already maintaining higher loan repayments than required and won’t be shaken by a climbing cash rate, according to the Reserve Bank.
Reserve Bank of Australia (RBA) assistant governor (economic) Luci Ellis appeared before the House of Representatives standing committee on tax and revenue on Monday (15 November) for its ongoing inquiry into housing affordability.
Reflecting on the serviceability of mortgages, the economist told the parliamentary committee that she had observed the majority of borrowers paying off more of their home loans than required by their contracts, particularly during COVID.
“Now, people have been socking away money in offset accounts and redraw accounts during this period. And particularly where you had lockdowns, some people were not spending as much as they ordinarily would,” Dr Ellis explained.
She had made the comments as economists have speculated a cash rate movement, from the current historic low of 0.1 per cent, is due sooner than the RBA’s previous forecast of 2024. Some have tipped an increase is on the cards as soon as November next year.
The Reserve Bank itself has acknowledged that inflation has picked up faster than it expected, but did re-confirm its intention to leave rates as is once again in its November Board meeting minutes.
Recent survey data from the Finance Brokers Association of Australia (FBAA) has found three-quarters of borrowers and renters believe that rising interest rates would place pressure on their financial position.
Around 56 per cent of the survey participants had said that if rates were to increase, they would need to consider refinancing their mortgages.
But Dr Ellis believes differently.
“One important context here is, if and when rates do eventually rise, a lot of people will not actually need to raise their actual repayment because they’re already paying more than they need to, according to their loan contract,” she told the parliamentary committee.
Last week, the Reserve Bank released research around liquidity, tying a rise in household liquidity in recent decades to rocketing house prices.
While aspiring buyers needed to accumulate greater levels of cash while saving for a deposit, those who already had a mortgage have been incentivised by the threat of future shocks to make higher repayments than needed and to build up a greater cash buffer.
Offset accounts were also found to be a primary driver of raised cash buffers with mortgage debt, at least since the 2010s – with the RBA noting borrowers using the product tended to have larger buffers on average and also experienced a greater rise in buffer over time.
Mortgages with offset accounts currently comprise around 40 per cent of home loans in Australia, while mortgages with redraw facilities make up around 70 per cent.
Dr Ellis called the widespread use of offset and redraw accounts “one of the most desirable features of the Australian institutional framework”.
“Other countries do not have the widespread use of offset and redraw accounts, which are the most tax-effective form of precautionary saving ever invented,” she commented.
Rates are a balancing act
Dr Ellis noted that setting the interest rate at low levels has pushed up housing prices by allowing consumers to service a larger mortgage on the same income, but the alternative wasn’t desirable for the central bank.
“The response I would have is that the alternative was being a high inflation country, much higher inflation than our peers,” she reported.
“And that would involve difficulties attracting capital, it would involve economic instability and there’s swings and roundabouts.”
Dr Ellis also reflected on the burden of a mortgage under different settings.
“If you conceptualise … you buy a home, you live in it, you pay off your mortgage – in a high-interest rate world, you end up paying more interest overall, but your income probably rose more quickly, and so those repayments declined more quickly, you inflated your debt away more quickly,” she said.
“In a low inflation world, you end up paying less interest overall cumulatively, but the burden of that repayment doesn’t inflate away quite as quickly when you’ve got lower nominal income growth.”
Sustainability is key
Dr Ellis' comments came just prior to the release of the RBA November board meeting minutes, which may make the speculation around affordability at higher interest rates a moot point... at least for a while yet.
Within the minutes statement, the board had highlighted that "given the latest data and forecasts, the central scenario for the economy continued to be consistent with the cash rate remaining at its current level until 2024.
According to the RBA, it will not raise official interest rates until inflation is between 2 and 3 per cent "on a sustainable basis", with the Bank's current prediction being that underlying inflation will not reach the midpoint of the target range until the end of 2023.
For this to occur "the labour market will need to be tight enough to generate materially higher wages growth than at the time of the meeting", the bank raised.
Dr Andrew Wilson, the consultant economist for Bluestone Home Loans, said that "perhaps" the latest confirmation "will dampen hysterical predictions of rate rises".
"The latest ABS September quarter wages data will likely further confirm the RBA’s clear and consistent position on interest rates: no rise until 2024," Dr Wilson concluded.