SHANE OLIVER: The RBA will cut rates in May

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Australian house prices continued to rise strongly in January, continuing the trend seen throughout 2016, with across the nation’s capitals rose by 0.7%, leaving the annual rate at 10.7%.

Much of that was due to the strength in Sydney and Melbourne property prices, which soared by 16% and 11.8% respectively, over the 12 months, leaving the gains in both cities at 99.4% and 85% since 2009.

Gains of such magnitude hardly suggests that interest rates in Australia need to be lower. If anything, it suggests the opposite.

However, while the housing market is an important part of the RBA’s interest rate jigsaw puzzle, it’s not the sole consideration for policymakers, and there are parts of the economy that could arguably do with a bit more monetary policy stimulus.

Shane Oliver, head of investment strategy and chief economist at AMP Capital, agrees with that sentiment, suggesting that even with the rampant house price growth in Australia’s southeastern capitals, the RBA is still likely to cut interest rates in the months ahead.

But, in the absence of a moderation in house price growth, it may need a little help from Australia’s banking regulator, APRA.

He explains:

The continuing strength in Sydney and Melbourne property prices coming on the back of a clear acceleration in lending to investors and high auction clearance rates will clearly add to RBA concerns about financial stability. While a surge in housing supply to record levels will act to slow the property market this is still yet to become clearly apparent (except perhaps in Melbourne unit prices).

In the meantime the focus around APRA tightening its macro prudential measures in order to slow investor activity in the Sydney and Melbourne markets, in order to provide the RBA with ongoing necessary flexibility on interest rates, is likely to intensify. This could take the form of APRA lowering its threshold for the stock of lending to investors from the currently level of 10% year on year.

We remain of the view that the RBA will cut interest rates again but not until May, but this likely to require either some slowing in property price momentum or a further tightening in APRA’s macro prudential policies.

At a time when house prices are already high, and continuing to increase, the idea that interest rates need to be cut further may seem like foolish idea to some, but, as previously pointed out, housing, and housing alone, should not be the sole factor for interest rates.

Just imagine if interest rates were set purely for Sydney and Melbourne house prices. Interest rates would be much higher, as would the Australian dollar. Where that would leave Australia’s economic rebalancing is anyone’s guess, but you can bet it wouldn’t be helped.

As Oliver points out, macroprudential measures should be used to provide the RBA with ongoing necessary flexibility on interest rates.

If other parts of the economy need assistance, monetary policy should oblige, rather than be hamstrung by pockets of the property market.

So a rate cut, with unemployment elevated, inflation low and the Australian dollar looking resilient, suddenly doesn’t seem such a silly idea – and is probably the appropriate response. It just needs safeguards in place to prevent an already hot housing market from boiling over.

While not everyone agrees with Oliver’s assessment that another rate cut is coming, it’s clear he’s not alone in thinking that tighter housing market restrictions, particularly towards investors, are looking increasingly likely.

Following the release of CoreLogic’s Home Value Index, George Tharenou, an economist at UBS, said that strength in house prices, in unison with strong auction clearance rates and sharp rebound in investor credit over the same period, “may attract the attention of regulators”.

Following the release of private sector credit figures from the RBA on Tuesday, NAB economist Tapas Strickland, said that the recent acceleration in housing investor credit “will keep the RBA paying close attention to the housing market in 2017 and may necessitate a slowing in investor housing lending”.

Daniel Gradwell and Jo Masters from ANZ agreed, suggesting that while “annual growth in investor borrowing remains well below APRA’s 10% speed-bump, ongoing monthly growth of this magnitude (0.8%) would put the regulator on alert once more”.

The RBA will deliver its first monetary policy decision for the year on Tuesday, February 7. Even more than usual, there’ll be plenty of attention paid to its language on developments in the housing market.

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