Higher interest rates are squeezing borrowers without subduing inflation
As the RBA's rate rises push up mortgage repayments and add pressure to property prices, questions are growing over whether Australia's approach to controlling inflation is placing too much of the burden on borrowers.
Interest rates increased again last month. They may do so again next month. But there’s something of a self-propagating conundrum in the Reserve Bank using the blunt instrument of interest rate increases to control inflation.
Higher rates single out mortgage holders. It is people with loans who exclusively feel the burden. People who own property, having paid off their loan, can spend more freely. They are not targeted by higher interest rates. In fact, they usually benefit from increased term deposit returns. They subsequently contribute to inflationary pressures while avoiding the repercussions. A question of fairness in this scenario is warranted.
But mortgage holders can’t avoid the repercussions and those mortgage holders who are investors may need to lift rents to cover the increase in repayments that interest rate increases deliver.
So, rents rise. Then the Reserve Bank meets again, looks at price movements in its shopping list of items, among which are rents. The decision to raise rates at the last meeting has impacted the cost of this item in the time since, therefore contributing to the potential for the RBA to raise rates again. The cycle continues, pushing an actual solution to inflation further away.
Some commentators have called for a different approach, such as through income tax adjustments. Increase tax when you need to curb spending, relax income tax when you need to encourage it. It would be unpopular and difficult to support, but at the very least, it would broaden the burden.
Quantitative tightening as a means of reducing excess money circulating in the economy is another avenue potentially worth exploring.
Either way, the status quo is not working. Making life tougher for mortgage holders is not delivering the deflationary outcomes sought. It’s time for a different approach.
As interest rates rise, property prices fall. Cotality figures show Sydney prices are now 8.6 per cent below the peak in February, eclipsing the same stage of the 2022-23 downturn.
Selling activity is down too. Buyers are exercising caution, conscious of higher borrowing costs balanced against the potential for what they buy to decline in value, even if only in the short term. Long term, the upward trajectory of property price growth remains historically consistent.
As another year draws close to an end, many investors will be basing their strategy on a punt as to when rates are likely to have peaked.
It’s a strategy wrought with danger though. Overemphasising the importance of external variables at the expense of individual circumstances is rarely a recipe for success. At this delicate time, the need for investors to focus on their own investment objectives and financial means is essential.
