There is a chance that writing about what fixed mortgage rates are doing could become boring again for a period of time even as the Reserve Bank raises its official cash rate as foreshadowed in their review recently. Why would this be so?
As noted a fortnight ago, financial markets are forward looking and they see monetary policy having to be tightened to remove the Covid-related stimulus, remove the unusual easing over 2019, then apply actual restraint to reflect the high domestic and global inflation risks.
Just this past week we have seen expressions of concern from both the UK and US central banks regarding inflation not really being as “transitory” as they have been assuming.
Mortgage rates are increasing more rapidly than before
Here in New Zealand we have already seen the fastest pace of increases in fixed mortgage rates since they appeared in the early-1990s. In fact, it is interesting to contrast this latest period of rate rises with the most recent sustained monetary policy tightening cycle which ran from the start of 2004 into 2008.
Over a near three year period the Reserve Bank took the official cash rate from 5.0% to 7.25%. But the three-year fixed mortgage rate hardly lifted upward at all. Contrast that with the current situation of this rate rising 1.8% in the past six months while the Reserve Bank’s cash rate has gone up only 0.5%.
Back then there was not a feeling that rates would go much higher each time the Reserve Bank tightened. But they kept rising and rising and the official cash rate eventually peaked at 8.25% and the economy was thrown into recession. We went into recession because the increases in household borrowing costs occurred too slowly.
That is not the case this time around and that is why we should not draw many parallels between this tightening cycle and the last one. Most of this cycle’s tightening as represented by mortgage interest rates has already occurred. But this does not however mean that all of the tightening has occurred. Or to put it another way. We should not expect no further increases in fixed mortgage rates as the cash rate heads towards the Reserve Bank’s target of 2.5% come 2023.
For fixed rates of three years and beyond, additional rises of about 1% are likely. For the two-year rate another 1.5% worth of increases seems likely. For the one-year rate which is closely tied to where the official cash rate is now rather than where it will go, rises of up to 2% look likely.
When rates hit their peaks in 12-18 months, does this mean they will stay there?
No. Eventually the inflation outlook will improve to the point that the Reserve Bank can be confident 2% will not just easily be achieved, but that inflation below 2% could be in prospect. So, they will eventually ease monetary policy again.
This might happen in 2024. But in all honesty, faced with the most uncertain forecasting environment any of us have ever seen, it would be foolish to get too wedded to any particular set of interest rate predictions. That is why it is probably best for most borrowers if risk is managed not just by fixing but by fixing over perhaps two time periods.
At the moment most people are opting to fix for two and/or three years. That’s probably what I would do also if I still had a mortgage rather than complaining about the still low return I am earning on my bank deposits.
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