Why Australian banks are cutting fixed rate mortgages despite successive interest rate hikes
It may have gone largely unnoticed amid the shrill sirens and the roar of emergency vehicles – but interest rates actually fell last week.
It’s true. In the rush to report the bad news of a massively telegraphed double hike in the official exchange rate – which the big four banks fully passed on to their variable rates – most news outlets ignored the fact that some key rates were in been reduced.
Fixed term rates, particularly for four years, have been cut – in some cases dramatically – by companies like Commonwealth Bank, Westpac, Macquarie and Suncorp.
The decisions were a sudden reversal of some wild fixed rate hikes just a few weeks ago by our major lenders.
The ABC and Westpac both cut their four-year loans to 4.99%. In the case of the ABC, this has fallen by around 1.6 percentage points from its previous level, so it is now well below the floating rate of 5.8%.
Was it because they felt a little generous? Probably not.
The most likely explanation is that as the odds of a recession continue to grow, the orbiting interest rate trajectory that most pundits were predicting just weeks ago is being hastily dismantled and the prospect of lower rates next year is increasing.
After pressuring central banks early last year to begin a series of meteoric rate hikes, global money markets suddenly eased.
Again, however, central banks, including the Reserve Bank of Australia, pay little heed. They have set aside their decades-long determination to avoid recession at all costs and, instead, are stubbornly focused on containing inflation.
But for how long ?
Raise prices…until you have to lower them
The RBA and its compadres came very late to the inflation party.
With only a few leftovers in the punch bowl, they became hell for leather. They have imposed interest rate hikes in recent months at the fastest pace in decades after years of deliberately encouraging nearly everyone to plunge headlong into debt.
It’s a strategy that goes completely against the ethos of central banking: predicting the future, acting ahead of the curve, telegraphing every move, and taking regular, deliberate action to keep the economy in balance. .
They may now be on the verge of making the same mistake on the recession front, as they swing from one extreme to the other, desperately pressing the brakes.
It is already having an impact. Oil prices plunged to their lowest level in six months – before Vladimir Putin launched his ill-fated war on Ukraine.
Global money markets are unwinding bets on rising rates as the whiff of recession mounts.
Last Friday, shortly after raising interest rates to the highest level in 27 years, the Bank of England dropped a bombshell.
The UK, he said, was likely to slide into recession at the end of this year and remain there for most of next year. Besieged by skyrocketing energy bills following Russia’s invasion of Ukraine, the Bank of England sees inflation surging past 13%.
BoE Governor Andrew Bailey distilled the dilemma he and the rest of the developed world’s monetary authorities face as they inflict even more pain on households already reeling from soaring costs that are in large part driven by external forces.
“I know they’re going to be like, ‘Well, why did you raise interest rates today, doesn’t that make it worse from this point of view in terms of consumption?’
“I’m afraid my answer to that question is this, because I fear the alternative is even worse in terms of persistent inflation.”
So there’s the updated playbook. Raise rates all at once until the global economy plunges into recession, then try to deal with the misery afterwards by… cutting interest rates.
The fall in the real estate market is accelerating
Warning signs are flashing red everywhere.
Sydney and Melbourne, the capital’s two housing markets that led the extraordinary surge in the post-pandemic property boom, are down and the pace of declines is accelerating. Prices in Sydney fell by 2.2% in July and in Melbourne by 1.5%.
Auction clearance rates, which were well over 80% during the boom, have plunged, with Sydney and Melbourne auctions hitting just 52% and 54% respectively.
It’s not surprising. The extraordinary growth in housing credit, which jumped more than 100% between May 2020 and January of this year – when more than $33 billion in new housing loans were issued in that month alone – is suddenly reversed, especially for homeowners.
It fell 4.4% in June and, while remaining at historically high levels, the mood has clearly changed.
Sellers alarmed at the prospect of not moving their properties are down with national listings down 8.4% last weekend nationwide, compared to the same period last year, with Sydney carrying the weight with a 15% drop.
Banks have responded to the new environment by dramatically reducing the amount they will lend to new borrowers – especially first-time home buyers – a phenomenon that will translate into even lower prices and auction clearances.
The debt hangover from the lending binge – the second largest on record since the 1970s – is well and truly underway.
According to Jonathon Mott – an analyst at investment bank Barrenjoey – if the RBA continues to raise rates at the speed of recent months, a large number of new Australian homeowners could find themselves at risk.
In an alarming report released last week, he questioned the logic behind forecasts that the RBA would continue to hike rates to 3% and possibly beyond this year. If that happened, he argued that many households – especially first-time home buyers – would struggle to cope with repayments.
“For the first time in several decades, we’re likely to see a wave of fully employed borrowers falling into delinquency because they just can’t make ends meet,” he said.
Local rates may be approaching the peak
Australia is particularly sensitive to movements in interest rates — for two reasons.
First, our households are among the most indebted in the world in terms of income. Most of this debt is attached to real estate, which leads to the second big problem.
Our home loans are mostly variable rate loans. Even our fixed rate terms are for relatively short periods. In many parts of the United States, on the other hand, home loans are fixed at a fixed rate for the term of the loan.
This gives the RBA more for its money. A change in the official exchange rate has more impact than in many other countries because it affects a relatively large number of households, which then changes their spending habits.
Another interpretation, however, is that – given the sensitivity – the RBA needs to be extra cautious and more discerning about raising rates.
For months, the RBA has argued that the savings accumulation and buffers accumulated by Australian households will provide sufficient protection against a rapid rise in interest rates.
This is not entirely correct because the pain is not evenly distributed. Older, more established households may have built up a large reserve. But most of those who bought during the last boom are unlikely to have any buffers.
The stakes are considerable: approximately 250 billion dollars in fact. This is the amount that was borrowed – largely by first-time home buyers – during the great lending binge to finance homes at the height of the market.
With variable rates now hovering well above four-year fixed term rates, the writing is on the wall. The recent streak of double hikes appears to be coming to an end and rate cuts next year could be a real possibility.
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