There is a lot of talk about interest rates right now. A lot of talk about an increase and the impact this may have on Australian households and property prices.
As does with chatter, it is often accompanied by misinformation.
Let me start by saying it is not a case of if but when – interest rates will go up. They are the lowest they have been in history, driven by the pandemic-induced recession so they must increase at some point.
The questions we should really be asking is when, by how much, and what the impact will be?
No one knows for certain the answer to such questions. But there’s truth in numbers, and if we look at some of the key numbers, we may just find the answers.
WHEN?
The Reserve Bank of Australia (RBA) controls the interest rates Aussies pay on their home loans using its cash rate target (cash rate).
The RBA cash rate is currently 0.1 per cent, and that hasn’t shifted for the past two years.
The RBA has said it will not increase the cash rate – and therefore our interest rates – until Australia experiences wage growth in the vicinity of 3-4 per cent per annum.
Wage growth is currently sitting at 2.3 per cent per annum. We’re behind most developed countries in this regard, which is why they’re already increasing interest rates.
The United States of America is seeing wage growth of 5.6 per cent per annum, the United Kingdom 5.4 per cent per annum, and New Zealand 3.8 per cent per annum.
As mentioned earlier, it is likely that interest rates will rise when wages start growing by more than 3 per cent.
HOW MUCH?
It’s useful to look at those countries who are currently leading Australia when it comes to wage growth and consider how their interest rates have fluctuated in recent times.
New Zealand has increased its cash rate by 1.25 per cent in the past eight months. This being so, our Kiwi neighbours have had wage growth above 3 per cent for more than a year now.
In the US the cash rate has increased by 0.25 per cent in the past few months. While wage growth is double Australia’s, the trend has been recent.
The UK has increased its cash rate by 0.65 per cent in small increments over the past six months. It too has had wage growth above 3 per cent for some time now.
These numbers suggest interest rates will increase by 1- 2 per cent over the next few years, depending on how quickly wages increase.
THE IMPACT?
I’ll defer to numbers for this too.
The average Australian owes a touch over $600,000 on their home.
The average wage in Australia is around $90,000 per annum, and the average household income around $130,000 a year.
Working off these figures, a 0.5 per cent increase to interest rates would need to be matched by a 3 per cent increase in wages, for the average household not to go backwards.
For single income households and those more highly geared, wages would obviously have to increase by more than 3 per cent.
But if wages increase by 3 per cent over the next 12 months, and interest rates increase by 0.5 per cent, Aussie households should remain largely unaffected.
There are two more things to consider:
- In the past year, Australians increased their offset savings accounts by 15 per cent, adding a massive $30 billion to their bottom line. That number suggests that Aussies have some buffer in their budgets currently.
- Our banking system should also provide some protection. To qualify for a loan in today’s market, you must demonstrate that you can service loan repayments if interest rates increased by 3 per cent.
There’s no doubt interest rates will go up, and that’s going to affect highly geared households, particularly those with large debts on their own homes.
But it seems to me, based off the numbers, that most Aussie households appear capable of withstanding an increase to interest rates, particularly if, as the RBA is telling us, any interest rate increase is accompanied by wage growth of 3 to 4 per cent per annum.
