House prices materially falling chorus from banks

In the latest BNZ Markets Outlook, the economists say there are already the first the first signs - largely anecdotal - that rising interest rates are starting to impact the housing market.

Additionally, it is clear the banking system is starting to tighten lending criteria in light of the tighter prudential requirements by the RBNZ and as banks reassess their risk in a market that is looking increasingly fragile.

“All of this will inevitably lead to, at best, a stalling in house price appreciation. More probably there will be a modest correction in prices,” says Stephen Topliss, the bank’s research head.

“So far, with just one increase in the cash rate, lending rates have moved dramatically. Money markets have now priced in a cash rate rising to 3% by July 2023. Some, but not all, of this is now being reflected in those lending rates. The average two-year mortgage rate, for example, is up around 175 basis points.”

Topliss says falling house prices and rising interest rates tend to have their biggest impact on household spending and residential construction. “There is no reason to believe things will be any different this time around but there are reasons to hope there is enough momentum elsewhere to keep the broader economy’s head above water.”

The bank notes in relation to household spending:

• If mortgage rates rise an average 2% across the board then this will, effectively, cut disposable spending power by about 3.3%;
• Households have built up a pool of savings over the past 18 months that are available to be drawn upon if necessary;
• Rising house prices will have had a positive wealth impact on household spending but this impact tends to be at its greatest when there is equity withdrawal occurring. There was significant evidence of this in the period 2003 to 2007 but almost no evidence of this behaviour over the past few years;
• Most models suggest the house price inflation of the past decade or so should have generated a much greater private consumption response than it did. So, if there is symmetry, any fall in house prices should also have a moderated impact;
• Given the speed with which house prices have risen over the past two years, it is debatable that consumption has had the chance to fully respond to any wealth effect anyway. And, if house prices fell 25% it would only take them back to where they were a year ago; and
• A softening housing sector has its greatest impact on durables spending.

Topliss says there is significant noise in all data at the moment so it is difficult to quantify anything but, on balance, we do think the combination of falling house prices and rising interest rates will meaningfully constrain private consumption over the medium term.

This pressure is likely to be at its peak in late 2022, early 2023.

The BNZ anticipates ongoing interest rate increases; house prices are likely to fall; household spending will be constrained; and while a recession is possible it’s not its central scenario, barring an external shock.