RBA continues its tightening cycle at its first meeting of the year

The Reserve Bank of Australia has just handed down its ninth straight Official Cash Rate increase at its monetary policy meeting on Tuesday 7th February.

It's not good news for Australian mortgage holders, and many will see it as something of a slap in the face. Particularly after RBA Governor Philip Lowe stood before parliament in November and apologized to homeowners who took out loans in expectation of keeping low-interest rates until 2024, only to see those rates begin to rise in May of the same year.

After a record run-up, Australia's cash rate from today is now at 3.35%, which is still much below the historical average of 4.6%, but is still painful for some of the more overextended Aussies.

Will the rate of tightening come to an end after this meeting or are there more hikes to come? Let's take a look at some of the factors at play and who’s saying what.

Inside the statement

The bank in its statement validated its latest increase, suggesting that global and local inflation is still very high. Up to the December quarter, CPI data showed inflation was up to 7.8%, its highest level since 1990. It is, however, slowing in reaction to falling energy costs, easing supply-chain issues, and the cycle of monetary policy tightening.

However, the bank noted that it will be some time before inflation returns to the optimal level of 2%. With the global economy's prognosis remaining bleak, below-average growth is predicted this year and next.

The RBA anticipates that inflation will fall this year as a result of both international forces and slower development in local demand. According to projections made by the central bank, consumer price inflation is expected to fall to 4.75% this year and to hover around 3% by the middle of 2025.

In 2022, Australia's economy saw steady expansion, but from now GDP growth is predicted to decline to roughly 1.5% in 2023 and in 2024, which is essentially unchanged from the central bank's prediction made three months earlier.

Job availability is still very limited according to the RBA. In recent months, the unemployment rate has been around 3.2%, which is the lowest level since 1974. The number of job openings and job postings is still quite high, albeit it has fallen somewhat in recent months. In spite of occasional reports of improvement, many businesses are still having a hard time finding qualified staff.

A rise in unemployment is widely anticipated this year in conjunction with a slowdown in economic development. The consensus projection from the bank is for the jobless rate to peak at 3.4% this year and rise to 4.2% by the middle of 2025.

A “mortgage cliff” is coming in 2023

Fixed rate mortgages generally set from 2-5 years have so far protected many Australians from interest rate hikes, which is an important factor for the RBA to keep in mind. There is a lag impact from earlier rate rises, and according to the RBA, up to 800,000 fixed loan contracts are projected to expire this year and be returned to the much higher variable rate. The RBA raising the cash rate further into restricted territory might prove to push the economy into recessionary conditions and be wholly unproductive.

According to the RBA's own research conducted in October last year, over half of these variable-rate owner-occupier borrowers will witness a fall in their free cash flows of more than 20% over the next couple of years, and for around 15% of them, the spare cash flow will become negative, which means they will not be able to afford essentials, let alone service their mortgage.

Most borrowers should be able to make ends meet for at least two years by cutting back on discretionary spending, decreasing their saving flows, and/or tapping into their accumulated prepayment buffers. The research went on to say that even though a small percentage of the sampled households appears to be at high risk of falling behind on their loan payments, a bigger proportion of families is likely to go into arrears on their mortgages should employment and housing market conditions worsen more than envisaged in the Bank's core scenario.

The housing market is feeling a huge contraction at the moment as a result of the rate hikes, but it's important to remember that prices were extremely inflated during the pandemic years. Dwelling values grew by an astounding 28.9% between September 2020 and May 2022, the fastest growth in national house prices on record. So, although the present decrease may seem dramatic, property prices were still 16% higher by the end of 2022 than they were 5 years earlier, and 59.8% higher than they were 10 years ago.

Will this be the end of rate increases for 2023?

Depending on who you ask, the predictions for Australian interest rate increases are very broad. It could be that there is much more pain to come with another six rate hikes, or this one today will be the last for this cycle of tightening before an extended pause. Basically, it's anyone's guess.

According to the CPI data for the December quarter of 2022, headline inflation is still quite high at 7.8%. However, some analysts think the RBA may halt its tightening cycle after a variety of recent data. The poorer-than-anticipated employment statistics, in addition to ABS retail sales for December being down 3.9%, continuing declines in housing prices, and the significant number of fixed-rate mortgages scheduled to expire this year will weigh heavily on the next meeting's result.

In its statement though, the central bank reiterated that to guarantee that inflation returns to its target goal and that the current period of elevated inflation is just transitory, it anticipates that more interest rate hikes will be necessary for the months ahead. According to the regulated CFD broker ActivTrades, the Board's decision on whether or not to raise interest rates further will be informed by developments in the global economy, consumer spending patterns, inflation expectations, and the state of the labor market.