Interest Rates Hikes and its Impact on the Australian Property Market

What is an interest rate? An interest rate basically represents the cost of borrowing in banks. It is the percentage of principal charged by the lender for the use of its money (thebalance.com). Interest rates are crucial for they affect the cost of loans; therefore, they could potentially speed up or slow down an economy.

Australia’s central bank, Reserve Bank of Australia governor Philip Lowe recently made a forecast on interest rates, which he made predictions concerning cash rates and for those who have home loans. It looks like the next months will definitely be challenging.

Firstly, let’s talk about how interest rates actually work and the differences between the fixed and variable interest rates.

Let’s say, a person takes out a loan from a bank for a home mortgage or a car, or even for education, and the bank applies the interest rate to the portion of your total balance. Banks borrow money from depositors, and the interest rate applied is what the banks will pay the person for using the money that was deposited. Failure to pay interest rates for every compounding period would cause the borrower’s outstanding debt to increase.

What’s the difference between fixed and variable interest rates?

A borrower is charged with interest rates in two ways: fixed or variable. When we say fixed, the interest rate remains the same throughout the lifespan of the loan. However, while interest payments are initially done, a higher percentage of the debt principal must be paid. Variable interest rates depend on the prime rate as imposed by the Federal funds, so if the rate increases, payment on the loan will follow. The Federal funds rate, in Australia’s case, the Reserve Bank of Australia, affects the overall money supply of a nation, which means, it dictates the economy’s health.

So, how do interest rates affect the property market?

The quickest explanation is if the interest rates are higher loans become more expensive, which would make it difficult for people and business owners to afford to take out a mortgage from the bank. With fewer loans, the demand from consumers would eventually slow down because there is simply not enough credit to fund their purchases. This massively affects the property market. When the interest rates are high, the possibility of reducing the capital that is mainly used to build or expand businesses would be affected and would slow down the economy.

Why is this news going to be very difficult for Australians?

Affordability issues have been such a huge problem in Australia for so many years now. Those who have been wanting to buy a house or a property find it impossible to make that purchase because of the high housing prices. Recent predictions made by the Reserve Bank of Australia have revealed to see that the cash rate in Australia would climb to 2.5%, while simultaneously, inflation could climb up to 7% by the end of this year. Philip Lowe, governor of RBA warns Australians about higher interest rates. These two are closely tied in. Higher cash rates would also mean higher interest rates.

Higher cash rates would cause lenders to hike variable interest rates. As cash rates increase as predicted by the RBA, Australian could most likely face more expensive repayments each month. For example, for a 2.5% cash rate, the available variable rate in the nation may be about 5.32% - a $500,000 home loan might see an extra $629 monthly.

Homebuyers need to get a low home loan rate because of how much these properties cost. Unfortunately, it looks like the first home buyers this year would be hit the hardest because of the interest rate increases plus the inflation rates, not to mention, the incredibly high cost of living while wages do not seem to move further up.

Read: https://www.hillbrook.co/blog_posts/403-market-prediction-melbourne-house-prices-to-fall-by-end-of-2023

Interest rates are part of the property market. They will either increase or decrease but the fact of the matter is, it’s always going to be there. It’s important to do your research as a buyer or an investor. It will save you from so many problems that could potentially come your way. Compare home loans and speak with experts. With the right information, any negative impacts could be alleviated or become manageable.

Sources:
https://www.thebalance.com/what-are-interest-rates-and-how-do-they-work-3305855#citation-6;
https://www.abc.net.au/news/2022-06-13/interest-rates-for-savings-accounts-rising-after-rate-hike/101143664;
https://www.canstar.com.au/home-loans/interest-rate-forecast-australia-2022/;