History shows housing ailments won't be cured by lower interest rates

Those expecting interest rate reductions in 2024 may have felt a little let down by the comments of the Reserve Bank after their May meeting. Rates are now on hold, and without further substantial declines in inflation, are unlikely to fall until perhaps 2025.

The concern around delayed rate reductions to expected interest rate cuts seems to provoke a lot of anxiety. The so-called “housing crisis” – some hope – will be eased when rates fall. It’s a dubious argument.

First, let’s understand something about the law of supply and demand. It’s called “supply AND demand” for a reason.

It’s not just a question of boosting supply and then, hey presto, all sorted. Demand is also at ridiculously high levels – you can thank our federal government and the current rates of immigration for that.

We need to see demand fall and supply rise for a more balanced market, and for prices to – potentially – ease. This is a housing availability issue.

Second, we need to accept that the so-called “housing affordability crisis” is mostly confined to our capital cities.

In many regional cities and towns – and some of the smaller capitals – the affordability dimension is nowhere near as bad as it is in Sydney, Melbourne or Brisbane. These, not coincidentally, are also the cities most preferred by higher numbers of international arrivals.

So we have both an availability crisis, and an affordability crisis, which is at its worst in primarily three capitals (which combined account for a large proportion of our national population).

Learning from housing crises of the past

Notice that in none of this have I mentioned interest rates.

Talk of interest rates and “the housing crisis” caused me to reflect back on the last time we had a similar “housing crisis.”

Yes, we’ve been here before.

In 2007, official interest rates rose quickly and peaked at just over 7 per cent.

Younger and lower income homebuyers were feeling the pinch in a big way. The issue dominated TV news and current affairs, radio talk back, and newspapers. It was hotly debated in Federal Parliament.

It was at the tail end of the Howard Government era and just prior to the first incarnation of Kevin Rudd. This was also the period of the Global Financial Crisis (the GFC). In America they were calling it ‘the Great Recession.’

In response to slowing economic growth, world financial markets lowered interest rates and commenced “quantitative easing” (meaning they printed more money). Interest rates began to fall quickly, and stayed lower for longer, almost reaching zero in 2021.

This was unheard of. But what it did was successfully paper over the affordability issues. Housing did not get any cheaper, regulations driving up housing costs did not get reversed, more bureaucracy was added, more costs were added and none of this mattered because money was as close to free as it could get.

My argument is that we’ve been kidding ourselves about our housing costs (which are too high) for too long, but while interest rates were on a downward path to almost zero, who cared?

What happened when rates quickly rose (in attempts to cool inflation) is that it simply exposed our underlying problems all over again.

Housing, in the biggest cities, is too expensive relative to incomes. And it is getting more expensive to develop. Costs are rising faster than incomes. The increase in interest rates is a bit like coming off painkillers … the pain was always there, it was just masked.

Have a look at the long-term story of interest rates and compare this “crisis” with the last one. Now ask yourself, do you seriously think interest rate reductions will “solve” the affordability issues? If they are to fall, they would need to get closer to zero again to make the pain go away. And the chances of that are next to zero.

Even if rates fall in 2025, there is little prospect of them falling to the very low lows of recent history. Which means that this time around, we might actually need to address our underlying housing problems rather than wishing them away with more “free money.”