From Gareth Aird, head of the Australian economy at the CBA:
- We maintain our central scenario that domestic house prices will fall by around 15% from peak to trough, but that forecast should now come true sooner.
- We expect national house prices to bottom out in mid-2023 before gradually increasing in the second half of 2023.
- Our forecast for house prices is conditional on a cash rate peak of ~2.60% (to be reached end-2022) and two 25bp interest rate cuts in H2 2023.
At the start of June, we released updated house price forecasts following the RBA’s 50 basis point rate hike in June. Prior to this forecast revision, we expected the RBA to tighten policy in 25 basis point moves. But the 50 basis point rate hike signaled that the RBA would precipitate its tightening cycle, which would have implications for property prices.
In June we wrote, “We expect house prices to fall nationwide by around 15% over the next eighteen months. Prices in Sydney and Melbourne are expected to fall more than in other capitals. Expected declines prices are important. But context is key. Price gains in 2021 nationwide have been extraordinary. And therefore, a contraction in house prices is a natural response to rising interest rates. , given that it was historically low interest rates that drove the phenomenal rise in prices in 2021.”
We have not changed our expectation that national house prices will fall by about 15%. But now we see that the bottom was reached earlier as prices are falling at a slightly faster rate than expected. Our expectation that the RBA will cut the cash rate by 50 basis points in the second half of 2023 will see house prices increase slightly under our central scenario at the end of 2023. In summary, we have essentially changed our price forecast profile houses rather than changing the overall message.
The historical lags between changes in the cash rate and the impact on house prices have shortened over the past five years. The current RBA tightening cycle is a good example. The peak in house prices nationwide was in April 2022. House prices began their descent as soon as the RBA began normalizing the cash rate the following month in May.
The rapid pace of the RBA’s tightening had an almost immediate impact on credit demand and, by extension, house prices (see charts opposite). The result is that national housing prices are currently falling at a rapid rate. This picture is unlikely to change in the near term as the RBA continues to raise the cash rate.
Our central scenario is that the RBA will proceed with further rate hikes of 75 basis points over the next few months and that the cash rate will peak at 2.60% (the risk lies in a higher terminal rate of around 2 .85%). Thus, our house price forecast is conditional on cash rates peaking at 2.60%. We anticipate a deeper decline in house prices if the RBA takes the cash rate above our terminal rate forecast.
Data from Corelogic indicates that nationwide home prices fell 1.4% in July and will likely be down 1.5% in August (benchmark 8 capitals). Such an outcome would cause house prices to fall 4.0% from their peak in April 2022.
Results vary across the country. House prices are falling rapidly in the major capitals of the east coast. House prices in Sydney are expected to post a second consecutive monthly decline of just over 2% in August, bringing the cumulative decline since the January 2022 peak to 7.0%.
Prices in Melbourne are expected to fall 1.3% in August, which would take prices down 5.0% from their peak at the start of the year. House prices in Brisbane have recently fallen after rising earlier this year. Property prices in Brisbane are expected to show a significant drop of 1.7% in August.
House prices in Adelaide and Perth are holding up so far, but the momentum is clearly slowing. Daily data from Corelogic suggests house prices dipped sideways in Adelaide and Perth in August. We expect prices to decline in these markets from here as higher interest rates further dampen demand for
housing credit and hence price expectations and outcomes adjust downwards.
The fall in property prices in our three biggest capitals is not surprising given the rapid pace of the RBA’s tightening and the sharp increase in house prices in 2021. But the recent pace of price declines is likely to cause some angst among policy makers if they persist for too long.
The RBA does not target house prices and it has made that clear. But house prices cannot be separated from the broader economy, and changes in house prices influence the economic outlook. Indeed, it is a forward-looking indicator (changes in house prices have an impact on wealth, consumer confidence, spending decisions and employment). Housing turnover also affects spending and prices, and turnover is positively correlated. More turnover in the housing market means more spending on household goods, all other things being equal. The reverse is also true. The RBA will closely monitor activity in the housing market for these reasons.
National housing prices will continue their downward trend in 2022 as the impact of rising interest rates weighs on borrowing capacity. The Melbourne Institute/WBC’s ‘Time to Buy a Housing’ index is at a very low level, while the ‘House Price Expectations Index’ has crashed in recent months (see chart opposite).
In many parts of Australia, the housing market has shifted from FOMO (fear of running out) in 2021 to FOGI (fear of entering). This momentum of course does not last forever and prices will stabilize and rebound at some point. But we’re not there yet as the RBA is expected to continue raising the cash rate, meaning standard variable mortgage rates have yet to rise.
It should be noted that the ABC’s expectation that the cash rate will peak at 2.60% is one of the most cautious among the forecasting community. And our call for the RBA to cut the cash rate by 50 basis points in the second half of 2023 is also a non-consensual call.
Table 1 below contains our updated house price forecasts by capital city. We expect the largest peak-to-trough drop to occur in Sydney (around 18% drop expected; unchanged from our view previously published in June). Broadly similar peak-to-trough falls are predicted for Melbourne and Brisbane, although
Prices in Brisbane have risen much more sharply than in Melbourne over the past two years, so the correction is not as significant in this context. We expect Perth to be the best performing market during this correction phase and to have the smallest decline from peak to trough.
Forecasting is not an exact science and all models have limitations. As such, we encourage readers to focus on our housing market message rather than our point estimates.
Our story is pretty straightforward on the housing front. RBA policy decisions from here will drive demand for credit, which in turn will influence house prices. House prices will continue to fall in the short term, but if the RBA lowers the cash rate in the second half of 2023 in line with our forecast, house prices should rise. We expect the Sydney and Melbourne property markets to initially be the most responsive to the RBA rate cuts, as they were the first to enter their correction phase.
Our view that the RBA will cut the cash rate in H2 2023 is largely based on our estimate of the neutral rate which we place at ~1.50% (~100 bps lower than the RBA’s estimate of 2.50 %). We expect the cash rate to remain in contraction territory for about a year, which would generate below-trend GDP growth and an increase in the unemployment rate. We expect the inflationary impulse to slow next year, allowing the RBA to ease policy to support the economy on our H2 2023 forecast profile (note that we expect inflation to return at the top of the RBA’s 2-3% target range by the end of 2023).