This is why the RBA would be wise to cut interest rates.
To reiterate – the wisdom in cutting interest rates is not to reflate house prices. On the contrary, macro-prudential rules and the tight credit conditions for mortgages should remain in place if interest rates are lowered. Lower interest rates matter because they would help guard against the fall out from the unfolding household wealth destruction which would see annual GDP growth slowing to around 2 per cent, it would see the unemployment rate get back up towards 6 per cent and inflation would fall from already near record low levels.
Most analysis on interest rates makes the mistake of focusing on the housing market if a rate cut is delivered.
Ignored is the fact that the business sector has over $940 billion of bank debt and another half a trillion or so in corporate debt. Lower interest rates would free up cash flow on this business debt by lowering debt service costs. This would not only help business to invest and hire more, it would underpin new business investment as the interest rate threshold for expansion is lowered.
What’s more, interest rate cuts would likely see the Australian dollar fall, especially when the US is in a clear cycle of interest rate increases. A lower Aussie dollar would give the export sector an extra boost, adding to economic growth and national incomes and would provide an offset to the looming weakness in household spending. It would also help local businesses competing with aggressive low cost importers as the price of imported items rose.
The housing market is important in itself but more importantly, in the way it risks dragging the rest of the economy down with it.
It is this latter point where policy should be directed for the sake of economic growth and stability.
With inflation locked in at a remarkably low rate, the most effective policy change would be to cut interest rates to shore up the business sector in the risky time.
As the only forecaster predicting rate cuts (other than myself but MB is invisible) Kouk is going to come out of this smelling like roses. Let’s not kid ourselves, though, the coming rate cuts are ALL about housing, at the Kouk himself makes clear at AFR:
How much will national house prices rise or fall across 2019? Down 5 per cent to 7.5 per cent after a similar fall in 2018
How much will Sydney house prices rise or fall across 2019? Down 7.5 per cent to 10 per cent after a fall of around 7.5 per cent in 2018.
What are the key considerations for your view? The drivers behind weaker prices in the next six to 12 months are clear – a tightening in credit, generally rising mortgage interest rates and a surge in new supply and poor rental yields.
The fact the RBA is unwilling to cut interest rates will make the decline more severe and in a feedback loop, undermine economic growth and employment and with that housing demand.
There is no way on this earth that Sydney and Melbourne property falling 15% will be self-stabilising, not kill the economy, nor result in the RBA sitting still.