The RBA could re-inflate a housing bubble with threats to cut interest rates further, economists warn

(Peter Macdiarmid, Getty Images)UBS warns of a housing bubble

Australia’s economy is looking a little worse for wear right now. Wages refuse to grow substantially, unemployment seems destined to rise, and inflation looks like it has a long road to recovery.

While the Reserve Bank of Australia (RBA) is acutely aware of all these symptoms, its prescribed interest rates cuts could actually make things worse, according to investment bank UBS. That’s despite helping stabilise major property markets.

“While the risk of a hard landing in the housing market is less likely, we question whether the ‘treatment is worse than the disease’,” it wrote in a research note supplied to Business Insider Australia.

The official interest rate is currently set at 1% but the RBA has suggested it could cut to 0%, and even below, into negative territory.

READ MORE: The RBA is now considering the drastic measure of negative interest rates — meaning you could be paid to borrow money from the bank

Further cuts would mean Australians are paid less interest on their savings and deposits. It also lowers the cost of borrowing, encouraging more people to take out loans and buy property, which could have a serious impact on house prices.

“It is possible that RBA rate cuts could lead to a reflation of the housing market,” UBS wrote.

That places the central bank in a bind. On one hand, it would be damaging for the economy if house prices kept falling, further growing the number of mortgagees who owe the bank more than their asset is worth. On the other, the RBA doesn’t want to overstimulate property markets, creating a housing bubble, according to UBS.

“We believe the policymakers are walking a tightrope given Household Debt to Disposable Income is at a world high 200%,” it wrote.

READ MORE: Australia’s household debt is one of the highest in the world

By cutting rates further, the RBA runs the risk of increasing the amount of debt Australians owe. The greater the debt, the bigger the fallout if Australians then begin defaulting on their loan repayments as the economy weakens. This week, Westpac revealed the proportion of borrowers falling behind on their repayments — while still low — was rising.

More rate cuts could also help drive prices higher still. That’s despite Australia already retaining the dubious honour of being home to some of the most expensive housing in the world.

“The function by which we get prices more affordable without a big economic contraction is the ongoing challenge,” CoreLogic senior research analyst Cameron Kusher tweeted on Friday.

It’s one that the RBA is still trying to get right.

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