Rising rates and a falling dollar put the squeeze on mortgagees

For Australians with a mortgage, there’s a good chance life is feeling somewhat tougher – and for good reason.  For one thing, mortgage rates are increasing. Meanwhile, the Aussie dollar has been depreciating against the US dollar, which is eroding the global purchasing power of all Australians.  Unfortunately, these dynamics are largely out of our control.

Let’s look at each in turn.

Mortgage rates 

Mortgage rates have been increasing (despite no change in the RBA’s cash rate), thereby increasing the debt-servicing requirements of one of the most indebted household sectors in the world.

It is not the case that Australian banks solely recycle Australian deposits for lending. It is the case that they also borrow abroad – often in the US debt markets – to lend domestically. So it follows, logically, that if interest rates in the US increase, there will be a knock-on effect to interest rates in Australia, all else being equal.

And interest rates in the US are rising – and are expected to continue to rise. Why? Because the US economy is believed to be operating above its capacity. With the 2008 GFC still fresh in the memories of many, it may still be surprising to some that the US unemployment rate is near a 50 year low. Inflation pressures are building. In just two years, the cost of truck freight has increased by nearly 40 per cent, for example. And most of these pressures were present beforePresident Trump signed into law the largest set of changes to the US tax code (read: new fiscal stimulus) in more than three decades.

The Aussie dollar

The depreciating Australian dollar has been primarily driven by strength in the US dollar. In part, this strength is due to the aforementioned rising interest rates. But perversely, this is also likely due to President Trump’s trade policies and potential trade war that may erupt in the coming months.

Why? By levelling tariffs on particular imports, these goods become more expensive for US households to purchase, leaving less income available to consume on other goods. This should reduce aggregate domestic consumption. And assuming production remains at least as strong, then national savings should increase. (Savings in this case should be thought of as: national production, minus national consumption). With more national savings available to fund domestic investment, the US current account should decline (reducing the US trade deficit, which President Trump’s intention), placing upward pressure on the US dollar.

Back to the Australian borrower whose mortgage rates are now going up. It’s hard enough that interest repayments are increasing – and for reasons that are completely out of the control of any Australian policymaker. But housing prices in major cities like Sydney and Melbourne are starting to fall – to the tune of at least 4 per cent per annum. And this is when viewed in Australian dollar terms.

Consider what the prices of Australian homes have done in US dollar terms since just the beginning of the calendar year: they are down by a further five per cent to whatever the change was in Australian dollar terms. This is from the weakening Australian dollar, alone. And this represents a very real erosion of global purchasing power for Australian households – even though this dynamic remains largely invisible in people’s daily lives.

It was the afternoon of November 9, 2016 when news of President Trump’s surprise victory in the US general election was broadcast to Australian shores. For nearly two years, many Australians have believed that this consequential event was of no consequence to them. But for any Australian with a mortgage, funding an Australian-dollar-denominated home: November 9, 2016 was indeed a very important day.