As rates hit the brakes, is 3.6 per cent as low as we should go?

It was near the end of Reserve Bank governor Michele Bullock’s press conference explaining the decision to leave interest rates steady at 3.6 per cent that the question came.

ABC finance reporter David Chau asked Bullock directly about the bank’s change in messaging about the outlook for interest rate settings.

Michele Bullock faces journalists at her Tuesday press conference.Credit: Louie Douvis

“Your previous forecasts gave borrowers a lot of hope that interest rates would be cut quite significantly in the next 12 months. Now, those hopes appear to have been greatly diminished or even dashed,” he said.

Bullock noted that she and the bank’s monetary policy committee had been “fairly cautious” in making monetary policy predictions before getting to a key point about interest rates in this country.

“We didn’t go up as high as other many other countries. We therefore possibly have less room to come down,” she said.

It was a signal, if any was needed, that the current 3.6 per cent official cash rate may be as good as it gets - for borrowers and savers.

After three rate cuts in six meetings, Tuesday’s decision not to ease monetary policy any further was widely expected following worse-than-expected inflation data.

There had been an assumption, embodied in Chau’s question, that further rate relief was in the offing.

But as the Commonwealth Bank’s head of Australian economics Belinda Allen noted, there might not be any further rate cuts.

“We expect it would take a material move higher in the unemployment rate, together with more moderate inflation prints, to bring the RBA back to the cutting table,” she said.

Something not in Chau’s question, or remarked upon by Bullock itself, is how the economy and Australian consumers are performing with the cash rate at 3.6 per cent.

Every major lender has reported in recent weeks that delinquency rates - the proportion of people behind on their mortgages - is actually falling (from barely elevated levels).

Household consumption has lifted, both in quantity and value. The private sector is, as the RBA noted, starting to take over from the public sector.

There is real financial pain in parts of the community while unemployment has ticked up.

Foodbank this week reported that half of all renters are suffering some form of “food insecurity” which means they are trying everything from reducing the quality and variety of food to skipping meals.

Foodbank Queensland volunteers at the food distribution warehouse in Brisbane. Demand for its services remains at very high levels.Credit: @foodbankqld

The Reserve’s own liaison program with charities is finding that demand for services continues to exceed supply, with the biggest pressure points “homelessness, emergency financial and food support and domestic violence”.

What’s been surprising, however, has been the lack of widespread and demonstrable financial damage across the nation’s army of borrowers who have borne the brunt of the RBA’s actions.

After the Reserve started lifting the cash rate from its 0.1 per cent pandemic-era low, there were real fears for the huge proportion of mortgage holders who had taken fixed rate loans.

When these loans re-set at much higher rates, the argument ran, Australians en masse would tumble lemming-like off a “mortgage cliff”. That would be on top of all those people with variable rate mortgages who would struggle to survive.

But the cliff and economic disaster didn’t eventuate.

Research compiled by a group of economists including several from the e61 think tank, released this week, suggests Australians’ use of offset and redraw accounts may be the nation’s economic secret sauce.

While annual repayments on variable mortgage lifted by an average $13,800, the economists found the impact on consumer spending was muted.

One of the report’s authors, Gianni La Cava, said people used their mortgage offset and redraw facilities, enabling them to maintain their spending.

And, as rates came down, most borrowers did not reduce their repayments. They started rebuilding their mortgage-linked savings.

This has major repercussions for the Reserve Bank and how it thinks movements in interest rates work and whether 3.6 per cent will actually bring inflation under control.

“The borrower cash flow channel of monetary policy may have weakened in both directions. The resilience that helped households weather higher rates may also dull the stimulus from lower ones,” La Cava said.

Reserve Bank data shows even as the share of household income used to pay mortgages hits 10 per cent, the level of excess mortgage repayments has grown.

While the bank will never admit it, especially during a heated political battle over the nation’s housing market, there is a concern that ever-lower interest rates will supercharge property prices.

In this week’s quarterly monetary policy statement, the bank revealed that for every 10 per cent lift in housing prices, economic growth is 0.7 per cent higher. In dollar terms, that’s an $18.5 billion jump in economic activity.

“The boost to GDP growth also flows through to higher inflation; in particular, we would expect new dwelling inflation to rise sharply as capacity pressures in housing construction increase,” it noted.

That increase in activity would push up underlying inflation by about 0.25 percentage points. Such a lift would not only kill any prospect of further rate relief, it would put a rate increase on the agenda.

The Grattan Institute noted this week in its report advocating major changes to capital city planning rules that the nation’s ratio of house prices to income has soared over the past two decades.

Sydney’s median house cost 6.3 times the median household income back in 2001. Now that median house costs around $1.5 million or almost 10 times median household income.

Brisbane and Adelaide have seen even larger increases in the income needed to buy a new home while the ratio has almost doubled in Canberra (with a median house value approaching $1 million).

Our higher priced houses require ever larger mortgages which means a larger share of household income now goes towards paying down the home loan.

And yet people have managed to get ahead on their mortgages. All but the richest quarter of home borrowers are further ahead in their repayments today than before the pandemic.

These issues, on top of all the other economic problems at play domestically and across the world, swirled around the Reserve Bank’s meeting room as it discussed where interest rates may be headed.

There was also an elephant in the room - the bank’s past and current inflation performance.

The RBA constantly undershot its 2-3 per cent inflation target across the five years leading up to the pandemic. It was one of the reasons the bank went through an independent review.

Then it, and every other central bank, endured the post-pandemic inflation spike that had prices climbing at an annual rate of 7.8 per cent in late 2022.

Finally, it reached its inflation target in the middle of last year. But rather than an extended period in the 2-3 per cent sweet spot, its new forecasts suggest Australians will endure another inflation burst that won’t be tempered until the middle of 2027.

That’s a dozen years during which the RBA will have inflation in its target range for little more than 12 months.

There will be even more difficult questions for Michele Bullock, Anthony Albanese and Jim Chalmers if that comes to pass.

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