Understanding why interest rates have been growing so rapidly in Australia

BY SIDDHARTH SHIRODKAR, PRINCIPAL ECONOMIST, IBA

Interest rates internationally and in Australia have grown rapidly over the last year. And while interest rates were on pause in April, the RBA just announced an increase in the cash rate for this month.?

The Australian cash rate has grown from 0.1% in April 2022 to 3.85% as of May 2023, representing the fastest rise in the Australian cash rate in a generation. The cash rate is critical, as it is the underlying tool that sets all interest rates in Australia, including for mortgages.

What does this do to my budget?

Higher interest rates mean higher repayments. For example, using the RBA’s measure of the average mortgage lending rate, mortgage repayments in Australia on a $500,000 loan have increased from around $2,100 a month to almost $2,900 a month. That is around $800 extra in interest payments people are making on their home loans compared to a year ago, and expect that to rise further this month.

How does this all affect me as a homeowner?

Aboriginal and Torres Strait Islander home ownership has grown markedly this century, with the Census revealing that rates have grown from 33% of First Nations households owning their own home in 2006 to around 41% by 2021. Of those households, two-thirds (around 111,400 households) own their home with a mortgage, over 4600 of which are currently through IBA. Since inception, IBA has supported over 21,000 Aboriginal and Torres Strait Islander families into home ownership. ?

The effects of interest rate rises have differing impacts on different families. For instance, the 40% of First Nations families that earn above the median Australian income are generally going to be in a better position to manage the rate rises. Households where at least a third of their after-tax income is going into the mortgage may be experiencing mortgage stress.

Mortgage stress can force families to make tough decisions about whether they can continue to live in their home or be forced to sell. It can mean having to choose between paying the mortgage and paying for electricity or having to cut down on groceries.

That is no choice at all.

Mortgage stress causes family stress, with parents wondering if they can continue to provide their children the safety and stability of having their own home. They may have to consider finding a second or third job to make ends meet. That stress passes onto children, having to worry if their parents can continue to support them, or perhaps if they need to step up and find a way to help around the house. Children grow up faster than they need to. And parents can feel ashamed for the choices they are forced to make.

When we are facing that kind of stress, it’s harder to make good decisions about the future.

And this doesn’t take into consideration the significant increases in the cost of living – with the prices of everything having gone up so rapidly over the past 12 months.

What’s the reason for the interest rate increases?

Central banks around the world, including the Reserve Bank of Australia (RBA), have been raising interest rates to tackle the challenges of very high inflation. Inflation just means the continuous increase in prices for the everyday items we buy, like groceries, petrol, washing machines, electricity, and rent.

For the Aboriginal and Torres Strait Islander families who make up 31% of Australians experiencing poverty, the added pressure from inflation is hitting harder, particularly in remote areas, where the cost of groceries is often significantly higher than in regional and urban areas.

The RBA tries to maintain Australian inflation (that is, the year on year increases in prices) to remain between 2% and 3% per year. But currently, inflation is sitting at 7.0% this year, falling from the peak of just under 8% in December quarter 2023, but still well above the RBA’s comfort zone.

Raising the interest rate makes it more expensive for us to borrow, and at the same time, makes it more attractive for people with spare money to save it. That puts less pressure on prices to go up.

What’s causing inflation?

The rapid increase in inflation is driven by many things, some of which are local, but mainly because of high inflation being brought in from overseas.

Given how connected the Australian economy is to the rest of the world, we experience much of those price increases through the imports we buy from overseas.

We’ve noted previously about the factors that are leading to rising inflation, including:

• the war in Ukraine and the effect on the price of key products such as petrol and wheat
• climate-change induced natural disasters such as the 2022 floods which wiped out massive crops in large farming communities in NSW, and
• the ongoing supply disruptions that have been caused by COVID-19, including the significant loss of life, which has reduced the global pool of workers.

These factors have meant that the global supply of products have been playing catch up with the demand for those products. That pushes up the price and raises the cost of living.

IBA’s approach

You can click on this video link to find out more about why IBA set our interest rates the way we do.

More recently at IBA, we’ve been raising our home loan rates gradually compared with the commercial banks. We hope that by doing so, our customers can be in a better position to manage the family budget.

But we recognise that many of our existing and former customers may be facing difficulties with the cost of living. If you are in that position, reach out to our IBA relationship managers and we can work out a plan to assist you.

Interested to purchase your first home? If you are an Aboriginal and/or Torres Strait Islander person keen to see if home ownership is right for you, check out our website, attend a free workshop or give IBA a call.

Contact IBA: 1800 107 107 / iba.gov.au

Information provided here is general in nature and not tailored to your particular needs. IBA cannot guarantee the currency and accuracy of information over time and always recommends obtaining independent financial and legal advice before making any significant decisions. Full disclaimer can be found on our website: www.iba.gov.au/disclaimer.?