May 11, 2022

Rising interest rates in a falling housing market: ‘It’s a big deal’

It will be the fall in house prices rather than the ability of borrowers to repay their home loans that will limit increases in the official exchange rate, said ANZ’s chief economist.

The Reserve Bank raised the OCR to 1% on Wednesday and raised its expectations for how interest rates will have to climb over the next few years.

He now expects the OCR to peak at around 3.4% by the end of 2024 to fight inflation. He had previously expected it to reach just 2.6%.

Governor Adrian Orr acknowledged that the housing market was already softening and the committee said higher interest rates were “consistent with housing prices becoming more sustainable”.

“The committee recognized that some newer, more indebted borrowers may be financially strained in a higher interest rate environment.”

READ MORE:
* House prices ‘could fall 10%’ following official cash rate forecast, economist says
* ANZ and Kiwibank hike mortgage rates after Reserve Bank raises OCR to 0.5%
* The official exchange rate is expected to increase by 25 basis points on Wednesday

Orr said there would be “small pockets” of New Zealanders, particularly those who had taken on debt recently, who might be in a position where they needed to manage negative equity – owing more than value of their properties – “for certain times”.

In November’s Financial Stability Report, the Reserve Bank said it estimated less than 10% of borrowers would have negative equity if prices fell 30%.

But in a briefing to the finance minister, the Reserve Bank noted that if mortgage rates were to rise to 5%, almost a fifth of recent first-time home buyers would face some maintenance stress.

Adrian Orr knows some people will struggle to cope with rising interest rates, says Sharon Zollner.

Robert Kitchin / Stuff

Adrian Orr knows some people will struggle to cope with rising interest rates, says Sharon Zollner.

The last time the OCR was 3.25%, in June 2015, borrowers were taking two-year fixed terms of just over 5.6%.

“At 6%, it would increase to almost 50%. Investors, and to a lesser extent existing homeowners, would also face service constraints at these levels.”

ANZ chief economist Sharon Zollner said under the Reserve Bank’s projected scenarios of a 5.4% fall in house prices, pockets of negative equity would be limited. People who have borrowed heavily for properties such as apartments could be more at risk, she said.

But she said the experience of the past two years had shown how difficult it was to accurately predict house price movements and that it was possible to imagine a situation where more people would find themselves in negative equity.

“The housing market is in a downturn right now.”

She said it was highly unusual for the Reserve Bank to forecast steady interest rate hikes in a declining housing market. “It’s a big problem.”

On Wednesday, the Reserve Bank made it clear that it wanted retail rates to be higher even as house prices were down, she said.

With inflation on the rise, he had to “kick the economy in while it was down” to get it under control.

She said while first-time home buyers would be most at risk, especially in centers where they took out large mortgages, they made up a “tiny” part of the housing market.

“From a financial stability and monetary policy perspective, you have to look at consumers as a whole.

“Even if the OCR went to 5%, we still wouldn’t have debt service charges equal to the proportion of revenue they represented in 2007.”

Sharon Zollner says households will face a twin crisis from higher loan repayments and surprisingly high inflation.

LAWRENCE SMITH / Stuff

Sharon Zollner says households will face a twin crisis from higher loan repayments and surprisingly high inflation.

She said it would not be the ability of borrowers to repay their mortgages that would limit the level of the cash rate.

“If we are forecasting an OCR of 5%, we are forecasting house price declines considerably above 7% [currently forecast by ANZ]. The impact on consumer wealth would be quite marked.

“We would see a hard landing in the housing market before debt servicing becomes unmanageable for a very large number of borrowers. That doesn’t mean it wouldn’t hurt. »

She said banks had tested borrowers’ ability to pay higher interest rates when applying for loans. If the OCR reached 3%, retail interest rates would be “up” from the lowest point in utility tests in recent years, she said.

“The other thing to consider is that no one expected 6% inflation to make a big enough dent in real household income.”

Wages would take time to catch up and in the meantime, household incomes would decline, in real terms, “at the rate of knots”.

“It makes debt servicing more difficult because your spare cash disappears buying tomatoes and cheese or gasoline.”

Mortgage adviser Bruce Patten agreed that those who would struggle the most would be those who had bought in the past 18 months and had their mortgage repayments set at a minimum.

But he said many people who had been in the market for a while were still making the same payments as when interest rates were 6 or 7%.

“Anyone who has had a higher interest rate and keeps payments at the same level will be fine.”

He said those worried might consider restructuring their loans and increasing the term, or switching to interest-only for a while.

ANZ raised its floating home loan rate by 25 basis points on Thursday.