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While rising interest rates both affect, and are influenced by residential and commercial property prices, the Reserve Bank of Australia's (RBA) head of domestic markets, Jonathan Kearns, told delegates at the AFR Property Summit 2022 on 19 September that there was “considerable uncertainty about other aspects”.
With a cash rate at 2.35 per cent and more hikes expected, it's well accepted that further increases in interest rates will reduce overall income and tighten borrowing conditions, which has a throw-on effect to the value of residential and commercial property.
Mr Kearns said the impact of a 200-basis-point increase in interest rate would lower real house prices by around 15 per cent over a two-year period.
“This means that a household would need a smaller mortgage to purchase a first home or if they were upgrading," he said.
Disregarding the “many other factors” influencing interest rates, Mr Kearns said estimates suggests that “mortgage payments for new borrowers could ultimately be lower than if interest rates had not increased”.
“Estimates suggest the net effect is that mortgage payments for new buyers would be higher for about two years as a result of higher interest rates. But after that, the declines in housing prices and mortgage size begin to dominate.”
However, Mr Kearns said that there remained considerable uncertainty around the “magnitude” and “timing” of the impact of interest rates on property prices.
He explained the response of property prices on rate hikes tends to be drawn out, occurring over years rather than months, and given other factors of price changes in the economy, it is difficult to measure the impact of interest rates on property prices.
“Property prices are influenced by many other factors — such as future rents and buyers' risk aversion — that can also be affected by interest rates,” Mr Kearns said.
He explained, while borrowers on variable rate loans will feel the impacts of rate rises fairly quickly, with reduced income, over time, the increase in interest rates works to reduce the demand for housing and so housing prices decline.
“On borrowing capacity, most home buyers do not take out the maximum size loan that their bank will give them.
“As a result, even if all borrowers' maximum loan size is reduced by 20 per cent in response to higher interest rates, not all new borrowers will have to take out a loan that is 20 per cent smaller.
In fact, he said the amount many borrowers would spend for a new home would only decline marginally, in part due to savings.
Rate hikes impact properties differently
In addition, while house prices are falling, the drop across different types of housing will be felt differently.
RBA data found interest rates can have a larger effect on housing prices in locations where the supply of housing is less flexible, mortgage debt is higher, there are more investors and incomes are higher.
“These estimates do not indicate that these factors cause housing prices to be more responsive to changes in interest rates, but they do highlight that the sensitivity of housing prices to interest rates is not going to be uniform across the country,” Mr Kearns said.
“What's more, housing prices in the most expensive areas are the most sensitive to interest rate changes.
“This matches the observation that housing prices in more expensive locations are more cyclical.”
The data also showed some evidence that detached housing was “more sensitive” to changes compared to apartments.
Overall, an increase in interest rates narrows the distribution of housing wealth since more expensive properties experience a larger fall in prices, he said.
“But results suggest that this distributional effect is temporary as the effects of interest rates on more expensive and cheaper properties converge over time.”
[Related: Lowe expects rate hikes to scale back]
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