Reserve Bank decision could push one- and two-year mortage rates up to 6 per cent

The Official Cast Rate (OCR) is expected to jump by up to 50 basis points on Wednesday, which could have the knock-on effect of driving up the cost of servicing a mortgage in the future and shrinking the size of mortgages borrowers can afford.

Reserve Bank governor Adrian Orr is expected by most commentators to increase the OCR by 25 or 50 basis points, taking it from 1 per cent to 1.5 per cent.

This shift may seem modest, but with interest rates historically low and national average asking price sitting 16 per cent high than last year, small changes will have a big effect on home loan borrowers’ interest repayments.

To put the changes in perspective, CoreLogic chief property economist Kelvin Davidson says a 50 basis point rise in the OCR could see popular one- or two-year fixed term interest rates easily end up in the range of 5 to 6 per cent over the coming months or even above (up from 4 to 5 per cent currently).

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"Going from a 5 per cent to 6 per cent mortgage rate would cost an extra $750 per year per $100,000 of debt. So somebody with a $500,000 mortgage would be on the hook for almost $4000 more per year - and they’ll already be paying more anyway, if they were originally fixed at 2 per cent or 3 per cent a year or two years ago.

”It's certainly another challenge for the market, but again the general thinking is that serviceability has been tested, so most people should be ok."

CoreLogic head of research Nick Goodall said prices were influenced by affordability, and if interest rates rose, the size of mortgages people could afford would shrink, and the prices of homes would follow.

“There’s less demand, because fewer people can borrow the sums of money required to pay the prices of where the market is currently at. It will further slow things down.”

Goodall said this headwind would add to others already acting on the market, including supply of homes being up, and the buyer pool having shrunk due to stricter lending rules and restrictions on low-deposit lending.

Economist Tony Alexander said house prices could fall 10 per cent this year, but it was the words and commentary from the Reserve Bank governor that would matter more than the rate increase.

He said the thing that would have the biggest effect on the sentiment of home buyers and sellers would be what the Reserve Bank said about future interest rate increases and the outlook for the wider economy.

“Things are slowing down quite a bit, the business sector is feeling pretty pessimistic, consumers have already reined in their spending, and the housing market is already turning downwards,” he says.

“I don’t necessarily think there’s going to be all that much extra negativity in terms of the housing market from this.”

Alexander doesn’t predict any degree of panic, because interest rates remain at historically low levels.

He said recent borrowers had to prove to their bank they could service a mortgage rate of at least 6.5 per cent.

“I have no worries, people had to prove they could service at least 6.5 per cent, and anyone who took out a mortgage three years ago probably had to prove they could service 7.5 or 8 per cent,” he says.

“The strain here isn’t going to be so much in the housing market, but in other areas of consumer spending. People with mortgages are going to be pulling back on spending on eating out, on dining out, on those sorts of things.”

He said the only sector where panic might set in was among property developers, who might no longer get the pre-sales their financiers demaned.

Alexander said everyday home loan borrowers were no better at understanding the impact of the Reserve Bank’s monetary policy than they were a decade ago, and their focus remained on the home loan interest rates of the day – and not how they might change in the future.

“Over a year ago I was suggesting to people with interest rates rising, perhaps they should lock in for five years at 2.99 per cent,” he says.

“Instead, people jumped in to fix one year at 2.19 and 2.49 per cent, so people’s focus is very much on the rates of the day and not really to where rates are likely to go in the future.”