Who rate rises hurt

On a A$500,000 loan, the full passage of the 13 rate rises translated to approximately A$1,210 more in monthly repayments by April 2024 compared to April 2022. Variable mortgage rates surged 69 per cent over the same period. The RBA found that the average outstanding mortgage rate increased by approximately 320 basis points — somewhat less than the full 425bp cash rate increase, reflecting the partial insulation of fixed-rate borrowers.

By October 2023, more than 1.5 million Australian households were at risk of mortgage stress. This represented an increase of more than 700,000 households from the pre-rate-hike period. The RBA separately found that 1 in 50 mortgage holders could face severe financial stress — defined as being unable to meet repayments entirely.

Many of the households experiencing these pressures had never seen a rate rise before the cycle began. The RBA’s last rate rise before May 2022 was in November 2010. A borrower who took out a mortgage in 2015 had spent seven years in a falling or flat rate environment. The 13 rises hit that borrower in an eighteen-month period.

During the COVID pandemic, with the cash rate at 0.10 per cent, many Australians locked in low fixed rates. The share of outstanding housing credit on fixed rates rose from approximately 20 per cent in early 2020 to a peak of nearly 40 per cent in early 2022. These fixed rates were typically around 2 to 2.5 per cent.

Most of these loans had terms of two or three years. About half had expired by the end of 2023. When they did, borrowers did not transition gradually to higher rates. They repriced on a single day. A borrower who had been paying 2 per cent woke up paying 6.5 per cent. The effective rate increase was 4.5 percentage points — applied instantly.

The September and December quarters of 2023 each saw approximately 15 per cent of the fixed-rate loan stock expire. For those households, the rate cycle did not arrive gradually over 19 months. It arrived in full on the day their fixed rate ended.

Renters did not have mortgages, so they were not directly affected by rate rises. They were affected twice indirectly.

The first channel: landlords. Most investment properties in Australia are financed by variable-rate mortgages. When the RBA raised rates, investors’ debt servicing costs rose. Many passed those costs to tenants through rent increases. With rental vacancy rates near historic lows — itself a consequence of insufficient housing construction over prior years — renters had little negotiating power. They could not easily leave.

The second channel: housing construction. Higher interest rates reduce the viability of new residential construction — the cost of financing a development rises with the cash rate. Australia’s housing shortage was already acute before 2022. The rate cycle worsened it by making new construction more expensive. Fewer homes were built. The shortage deepened. Rents rose further.

The rate cycle reduced household borrowing capacity substantially. The RBA’s own analysis found that the 225 basis point increase in the cash rate by mid-2022 alone had reduced maximum loan size by approximately 20 per cent. The full 425bp cycle reduced borrowing capacity by approximately 35 to 40 per cent.

A person on average earnings who could borrow A$600,000 before the cycle began could borrow approximately A$380,000 to A$400,000 at the peak. In Sydney, where median dwelling values exceed A$1 million, this meant the market was effectively closed. First home buyers who had spent years saving a deposit found that their purchasing power had been slashed — not by any change in their own circumstances, but by a central bank responding to a supply shock they had not caused.

The rate cycle did not occur in isolation. It occurred simultaneously with real wage falls that began in 2021. The RBA documented that real wages — wages adjusted for inflation — fell approximately 5 per cent from 2021 and remain around their 2023 trough.

The Australia Institute’s arithmetic is stark: a couple with a A$660,000 mortgage who received the average 3.7 per cent wage increase saw their after-tax, after-mortgage, inflation-adjusted income fall 26 per cent in real terms over twelve months. Not because they lost their jobs or took pay cuts. Because inflation cut their purchasing power, higher taxes from bracket creep cut their take-home pay growth, and rising rates cut their disposable income.

Real household disposable incomes fell 6.1 per cent in the year to September 2023 — the largest decline of any OECD country, according to the AFR. Economist Chris Richardson called it the largest fall in living standards since records began in 1959. The losses were not expected to be recovered until 2027.