A riddle resolved: Do interest rates affect property prices?

Interest rates – they’re impossible to escape.

With 12 interest rate rises in the last 13 months, it’s on the tips of everyone’s tongues, dominating the news cycle and impacting decisions to purchase a new home or grow investment portfolios.

And with the interest rate rises, the long-standing debate around the relationship between house prices and interest rates has been reignited.

But is there actually a relationship between house prices and interest rates? Will high interest rates make property prices go down and will low interest rates cause property prices to increase?

To put an end to the debate once and for all, I broke down the Reserve Bank of Australia (RBA) cash rate over the past 25 years and the increases or decreases to property prices in the same period.

A warning, this article features a lot of statistics, but it’s worth taking your time to read through and absorb the details of what was uncovered.

To the results

In the past 25 years, the median house price in Australia has:

• fallen in value on four occasions
• increased by between 1 per cent and 10 per cent on twelve occasions
• increased by more than 10 per cent on nine occasions.

That is an increase 21 times versus a fall on only four occasions.

The RBA targets a cash rate of between 2 per cent and 3 per cent.

In the past 25 years, the cash rate was higher than 3 per cent on 15 occasions. Property prices in those 15 years have:

• fallen in value on two occasions (by 1 per cent and 3 per cent respectively)
• increased by between 1 per cent and 10 per cent on six occasions
• increased by more than 10 per cent on seven occasions.

Again, 13 property price increases versus two falls.

In the past 25 years, the cash rate was less than 3 per cent on 10 occasions. Property prices in those 10 years have:

• fallen in value on two occasions (by 6 per cent and 7 per cent respectively
• increased by between 1 per cent and 10 per cent on six occasions
• increased by more than 10 per cent on two occasions.

So even when the cash rate is low, property prices increased eight times compared to a fall on two occasions.

The verdict

There is no relationship between interest rates and property values.

Interest rates certainly have an impact on property sentiment and other variables, such as buyer and seller confidence and ability to borrow, but high interest rates do not cause property prices to decrease and low interest rates do not cause property prices to increase.

If anything, the numbers indicate a likelihood of prices increasing when interest rates are high, rather than when they are low.

Many factors affect property prices

At the end of the day, the value of property comes down to supply and demand and interest rates are only one of many factors influencing the supply and demand of housing.

For example, in today’s market we’re experiencing high migration, low unemployment, inflation, wage growth and high interest rates, which all impact supply and demand.

High migration creates a larger need for more housing and low unemployment leaves property owners with little reason to sell. In addition, inflation has caused many to spend less, instead bunkering down to ride out the high inflation market.

All these factors contribute to a market with very little supply and significant demand, driving house prices up.

Finally, it’s worth noting that the Australian median house price has fallen in value just four times in the past 25 years (by 1 per cent, 3 per cent, 6 per cent and 7 per cent respectively).

Prices have increased by somewhere between 1 and 10 per cent 12 times in that period.

Prices have increased by more than 10 per cent a whopping nine out of 25 years.

I admit, prior to this exercise I assumed prices were more likely to decrease in a high interest rate environment and increase in a low interest rate environment.

But I was reminded there’s only truth in numbers.

The takeaway?

If you can afford to do something today, do it. If you can’t afford it, don’t do it. But make the decision based on the answer to those questions, not because of external noise with no relevance.