After the governor of The Reserve Bank of Australia, Philip Lowe, acknowledged that there is a “plausible scenario” of a cash rise this year, many people have been worried about how it may affect them. Bloomberg also predicts a rise, claiming the RBA could announce an increase in interest rates at any of their meetings from mid-2022 to late-2022, delaying increases until after the 2022 election and having a clearer picture of wage data.
The last time interest rates rose was in 2011, they have only decreased ever since. This implies that many Australian homeowners, borrowers and savers have never seen an increase in interest rates. Whilst the RBA initially indicated that rate increases were expected to occur in 2024, growing inflation has bought the agenda forward. A 1% rise is expected by the end of this year.
Depending upon individual choices made during the era of low interest rates, Australians are likely to find themselves either winners or a losers as the interest rate’s rise. Let’s look at the implications:
Losers
Homeowners with variable-rate mortgages
When the RBA increases interest rates, it will directly affect homeowners with variable-rate mortgages. Unlike fixed-rate mortgages where borrowers only need to pay a fixed percentage of interest regardless of the RBA rates, variable mortgages may be more difficult to pay as rates rise. Every incremental increase by the RBA will be passed on directly to people with variable rate mortgages by their banks. Even a 1% increase could cost these homeowners thousands of dollars over the course of a year.
Homeowners that bought during the recent boom
One of the major economic effects of lower interest rates is higher asset prices. That has certainly been the case across all sectors of the Australian property market. Lower rates have made larger loans more affordable pushing up house prices. Rising mortgage payments could reverse this trend, forcing some homeowners to sell if their mortgage becomes unaffordable. FOMO can quickly turn to FONGO. Those at the highest risk would be homeowners who bought at the peak, with the highest LVR, and with monthly payments close to maximum affordability. They could face the painful consequences of negative equity – in which their mortgage payments are no longer affordable so they need to sell, however, the value of the property is less than the price paid.
Winners
Savers
Long term low interest rates followed by the first signs of inflation may not have been good news for savers. However with interest rates rising, prudent savers could finally see an increase on their returns. It’s not all clear skies ahead though, if interest rate rises don’t sufficiently bring inflation under control, then in real terms, savers could still see buying power of their savings diminish. Nevertheless, the old adage that “cash is king” could prove to be right again if asset prices drop after rates rise. There could be bargains to be snapped up by savvy savers.
Homeowners with fixed-rate mortgages
Although fixed rate mortgages have either dried up or seen the fixed rate increase in recent times, there are several banks still offering them. Homeowners could yet lock in up to 5 years of fixed rates if they fear rates may increase significantly, especially to have peace of mind and certainty on monthly commitments for a long period. Those who took fixed rates over the past year or two will not be impacted by rising rates at all – which could retrospectively be seen as a very smart move.
Considering the fate of all Australians impacted by rising interest rates, the RBA knows that they have a huge responsibility in hand. What goes down must eventually go back up again though, and it appears we are now at one minute to midnight for the post GFC era of ultra low interest rates.