There is a large amount of awful ‘analysis’ of how the interest-rate-hiking cycle - that commenced last week with the RBA’s 25-basis-point hike - will lead to severe financial stress for mortgage holders.
While there may be a few imprudent borrowers, as there always is, household financial stress is low and is set to remain low, even as interest rates rise.
Also by the Kouk:
Any speculation of widespread mortgage stress needs to be put in context of how those householders who borrowed heavily in recent years to buy a house are actually faring.
Let’s have a look at an example.
Someone who borrowed $500,000 in late 2018 to buy a house in Brisbane for $750,000 is now sitting on a property worth around $1.125 million. This is a tidy $375,000 tax-free capital gain in just over three years.
Until last week, that borrower had seen their mortgage interest rate drop by around 150 basis points on the back of RBA monetary policy decisions since they took out their loan.
If this household maintained the dollar value of their monthly repayments at the level they started, they would now be many months ahead in their repayment schedule and would not have to look at increasing their repayments until the RBA hiked by a total of at least 150 basis points.
Further, in late 2018, the unemployment rate in Queensland was above 6 per cent, compared to 4 per cent today. This has enhanced job security and job opportunities and, even in the low-wages environment, household income has risen by around 10 per cent, meaning a lift in capacity to meet higher interest rates while maintaining spending at a solid rate.
It’s a similar story in every other capital city and regional centre, where house prices have risen strongly, prior interest rate cuts have eased the repayment schedule, the labour market has improved and incomes have risen.
Mortgage stress? Come off it
As long as the labour market remains tight – meaning low unemployment and a reasonable lift in incomes – the extent of mortgage stress will remain very low, even as the RBA lifts official interest rates towards 3 per cent.
It should be noted that even when the economy is strong, interest rates are falling and the housing market is strong, around 0.25 to 0.75 per cent of bank mortgage assets fail.
This can be for many reasons: the unexpected ill health of the mortgage holder, business failure, job losses, marriage break-up and, occasionally, a reality check that someone borrowed too much.
Most of the reasons have nothing to do with interest rate changes.
These factors will no doubt be in play in the months and years ahead, as interest rates do increase, but the level of stress is unlikely to be made materially worse by higher interest rates.
Looking ahead: What may drive an unexpected lift in defaults?
The RBA rate hikes are expected to be implemented over the next 18 months to two years. It may yet be even longer than this.
Even in the climate of weak wages growth, household incomes over the next two years are likely to rise by 7 or 8 per cent, helped by normal pay rises, plus a promotion or a pay rise granted by job hopping.
There is already a decent offset to the rate rises.
And in a climate where the unemployment rate is at a 50-year low, most workers are enjoying a level of job security not seen since their grandparents were in the workforce in the 1970s.
As another not-unimportant antidote, even for householders in their 30s or 40s, superannuation savings are growing at a strong pace, aided by the 10 per cent superannuation guarantee contributions and enhanced by what has been a series of solid returns from market growth.
The overall financial position of the massive majority of households is strong.
In other words, if there was an audit of the change in that householder’s balance sheet from 2018, their financial position would be sitting very pretty.
Interest rate hikes are an irritation for mortgage holders
To be sure, our sample household in Brisbane will no doubt be at least a little irritated by the rise in interest rates and the fact that one day - once the RBA hikes exceed 150 basis points - they may have to divert some income away from spending and direct it towards paying more on their mortgage. But they are in a great position to handle those rate hikes.
It is important to note that it is a similar story if the same fact-based scenario was applied to a house buyer in any other city or regional area in Australia.
Since late 2018, house prices have risen - some by around 40 per cent - Australia wide, with even the weakest cities – Perth and Melbourne – up by more than 25 per cent.
In the end, no one likes to pay extra for any item they need. This includes the amount needed to make the monthly repayments on your mortgage.
But the rate increases unfolding before our eyes need to be put into context of just how wealthy most Australian households are.
Cost-of-living pressures bite
Clearly, not everyone has benefited from the house price boom. But many who are not owners of residential property are still financially secure and are content with their decision to be renters.
There are, unfortunately, a cohort of the population who are genuinely doing it tough with cost-of-living pressures, very low wages, insecure work and acute vulnerability to even small increases in the prices of many essentials.
For these less-well-off Australians, their financial-insecurity concerns must of course be addressed – we are a prosperous country, after all. But these issues cannot and never should be the purview of monetary policy and interest rate settings.
It is the role of a decent government to have the policy settings in place to provide a decent safety net to look after the most vulnerable households. These vulnerable people in society can be helped by a progressive tax system, social housing, meaningful transfer payments, ready access to health and education, among many issues.
But suffice to say, for those lucky enough to own residential property with a mortgage, there is little to suggest that financial stress will be a concern, given how healthy most household balance sheets are.