If you see a truck hurtling toward you, what do you do? Just stand there and let it run you over or move away well in advance and avoid the accident?
The answer is obvious. You can see it coming and you prepare for what is coming.
In economics in 2023, this analogy applies to the often-melodramatic and over-cooked discussion on the upcoming ‘mortgage cliff’. The mortgage cliff refers to the effect of the rollover of a series of fixed-rate mortgages that were taken out around mid-2020 to early 2022 at interest rates around 2.5 per cent. These will roll over within the next 18 months into a materially higher mortgage-rate structure - around 5.5 to 6 per cent. There is a large cohort of loans in this space falling due before the end of 2023.
Also by the Kouk:
Borrowers with these loans will soon be putting away their champagne, having celebrated the fact they enjoyed a couple of years of monthly mortgage repayments many hundreds of dollars below their friends - who relied on variable rates in the past year. When the ‘cliff’ hits them, they will simply be catching up to those friends. Nothing worse.
To be sure, it will be a jolt seeing monthly repayments lift by many hundreds of dollars - and more - in one hit, but this endpoint is exactly what all other borrowers have been dealing with as interest rates have been ratcheting up since May 2022.
Anyone with even a scintilla of financial awareness would be fully aware when their term mortgage was coming to an end while acknowledging they were smart to lock in the lower rate for a couple of years. These borrowers should have and, in many instances, likely will have been preparing for the rollover, knowing it was a dead-set certainty the rollover would be into a structure of higher interest rates. And, what’s more, the banks have been telling their customers their repayments will rise when their term loans expire.
The mortgage cliff is likely to be the least-surprising economic issue of 2023.
It is noteworthy that, since those fixed loans were written a year or two ago, household incomes have risen at a solid pace. This will provide some respite for the higher repayment impost. Many householders have also accumulated large savings pools, which can - and will - be allocated to the higher-repayment schedule. The fact the labour market is extremely tight is an additional comfort given job security is sound for most mortgage holders.
The mortgage cliff has also been a well-known issue to policy makers and banks. They have been planning for the unwinding of what has been a fantastic windfall for those borrowers who have such a loan.
The RBA knows its rate-hiking cycle to date has had no material impact on the pool of borrowers with fixed-rate loans rolling over soon. This means the full effect of the hikes to date is still moderate and some months away.
As a result, the RBA has a strong sense that further hikes are probably not needed to get inflation under control since the seeds have been sown to feed into a period of slower growth and, with that, lower inflation.
Of great importance - even with the ‘slow and low impact’ of rate hikes to date because of the mortgage cliff - the economy is slowing, making any further RBA hikes improbable.
Retail sales are weak, building approvals continue to fall, job advertisements have topped out, house prices are falling, consumer sentiment is sour, credit growth is dipping and government demand is neutral - at best - for growth.
While the mortgage cliff is fully anticipated, it will divert some cash flows away from consumption and hence, will skew growth lower from an already-soft starting point as 2023 kicks off.
It is just that the lag is between changes in monetary policy and their impact on growth and then inflation is in this cycle longer than usual.
If the mortgage cliff was a big and scary issue as some claim, investors would have been selling shares in the banks. The fact bank share prices are generally above pre-pandemic levels in a broadly weak market says a lot about the passing concerns of those ‘in the know’ of the looming cliff.
Nobody with a mortgage about to roll over likes what is about to happen but, thankfully, they are prepared for it and the labour market is so strong that they will meet the financial challenges thrown up when the loans are rolled over.