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RBA expects property prices may fall by 20%: the rising risk of mortgage prison

Alex Ritchie avatar
Alex Ritchie
- 5 min read
RBA expects property prices may fall by 20%: the rising risk of mortgage prison

National property prices could fall by as much as 20% off the back of the cash rate increases, according to the Reserve Bank of Australia, in documents released under Freedom of Information.

The newly released information paints a picture of a Reserve Bank of Australia (RBA) Board perceiving uncertainty in how far home values will fall, and how far reaching the impact of that could be. Some documents are dated as recently as August 2022, when the RBA hiked the cash rate by 50 basis points for the fourth month in a row. 

The documents show that RBA economists predict prices to fall nationally by 11% by mid-2023, before stabilising. The national fall by the end of 2024, however, could be as severe as 20% - depending on how people respond to the initial fall in prices and the higher-rate environment.  

It was also expected that throughout the rest of 2022, property prices in Sydney and Melbourne could fall by as much as 1.5% a month.

According to the documents, an RBA economist said: “We’re now anticipating housing prices to decline over the next few years. That reflects the ongoing slowing in momentum in the market and the steepening of expectations for the future path of interest rates."

Rising rates and inflation, falling housing values

Since May 2022, the RBA has hiked the cash rate by 250 basis points, increasing it from 0.10% to 2.60%. This includes four consecutive months of 50 basis point double hikes.

This series of increases to the national cash rate have been deemed necessary as a response to rising inflation levels. When interest rates on credit products are higher, businesses and consumers are less likely to borrow funds, therefore decreasing spending. When spending declines, this may work to slow a country’s economic growth, and inflation.

Inflation is expected to reach 7.75% by the end of the year, thanks to ongoing issues such as global supply chain delays and Russia’s invasion of Ukraine impacting global fuel and energy prices. While higher interest rates are working overtime to curb the sharp rise in inflation, it may have the opposite effect on our housing market. 

CoreLogic’s Home Value Index for September 2022 shows that housing value declines have been slowing, although they’ve not stopped entirely. In September, Sydney saw the sharpest decline in housing values at 9%, or $104,300 less than its January 2022 peak. Melbourne housing values have fallen 5.6% since February.

CoreLogic’s research director, Tim Lawless, said of the September figures: “It’s possible we have seen the initial shock of a rapid rise in interest rates pass through the market and most borrowers and prospective home buyers have now ‘priced in’ further rate hikes.” 

“However, if interest rates continue to rise as rapidly as they have since May, we could see the rate of decline in housing values accelerate once again,” said Mr Lawless.

‘Mortgage Prison’: the impact of falling property prices

So, if the RBA’s suggested property price decline of 20% were to occur nationally, what would this mean for homeowners? Unfortunately, a significant decline in property values may put homeowners at risk of falling into negative equity, and being locked into a ‘mortgage prison’.

Negative equity can occur, meaning the current value of your home is less than the mortgage amount owing. This is a considerable risk for recent home buyers in Australia, given that prior to the recent rate hikes, home buyers were borrowing at dangerously high debt-to-income ratios.

Borrowers who purchased property with a small deposit may find their equity has fallen below 20%, even if they’ve been repaying their mortgage for some time. In a higher rate environment, you may be desperate to refinance to a lower interest rate to make your mortgage repayments more affordable.

If sharp declines in home equity occur, particularly reaching negative equity, the homeowner may find themselves in ‘mortgage prison’, unable to refinance.

Being in mortgage prison makes it very costly to switch lenders, as you are likely to have to pay Lender’s Mortgage Insurance (LMI), which can climb into the tens of thousands of dollars. In some cases, a new lender might decide not to accept your application due to the equity position. This means you are essentially ‘trapped’ in your current home loan.

Those most at risk of mortgage prison are:

  • Borrowers who purchased at the peak of property prices in their area; and
  • Borrowers with small deposits, such as first home buyers.

RateCity.com.au research director, Sally Tindall, said: “In the boom, a ‘fear of missing out’ drove property prices higher. Now a ‘fear of getting in’, is having the reverse effect.

“Anyone who bought at the peak should put the property news pages in the bottom drawer and focus on paying down their debt,”Ms Tindall said.

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Product database updated 23 Jul, 2024

This article was reviewed by Personal Finance Editor Peter Terlato before it was published as part of RateCity's Fact Check process.

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