31 March 2023

Housing markets are heavily influenced by changes in interest rates as are the actions of investors. Rising interest rates from tightening monetary policy tend to encourage investors away from assets like shares and property towards fixed interest securities and bank term deposits.

These investor preference shifts are one reason why average NZ house prices have fallen by over 16% since the extreme heights reached late in 2021. A simple correction in an over-valued market however explains the bulk of the price declines and as always happens when an asset market is undertaking such a correction we begin to wonder about the risk of over-correcting.

That risk is present but probably not great in New Zealand. REINZ have just reported that average house prices rose 0.1% in February after falling 1.3% in January and 1.7% in December. The 0.1% rise may well be a blip and we need to treat all February and March data with a grain of salt because of the extreme flooding events and the fact house prices typically rise firmly in these two months.

But the slowing in the pace of house price decline is consistent with strong evidence that young buyers have returned to the market. Each month I run a survey of mortgage brokers around the country and back in December a net 17% said they were seeing fewer first home buyers. That measure was about at the same at -13% in January.

But in February it reversed course to record a positive net 30% and the March result is a high net 59%. I get a similar turnaround in the results of my monthly survey of real estate agents. In November a net 16% were seeing fewer first-time buyers. That reading improved to -3% in January and now sits at +22%.

I also ask these two groups operating at the real estate coalface if they are seeing more investors. None of those results are positive though they are less negative than shortly after the record 0.75% tightening of monetary policy on November 23 last year. Investors remain focussed on the potential for short-term capital losses, high financing costs, new regulations, and tax changes decreasing interest expense deductions.

The housing market in New Zealand is firmly back in the endgame of the downward leg of its cycle and although turnover is at record weak levels things are shaping up towards a bottoming out perhaps near the middle of the year.

Some of the factors in play include these, and this relates to the introductory sentences above. The outlook for interest rates is changing – better for borrowers, not as good as hoped for savers. Banks are failing to meet their mortgage sales goals and have started experimenting with heavily discounted special rates aimed at retaining customers and attracting the many who will rollover into higher fixed rates this year.

More importantly, low mortgage sales are encouraging banks to run lower than average margins on their lending and following a round of fixed rate cuts two months ago my expressed 90% confidence that peak rates this cycle have passed sits now at 99%.

This is especially the case when we consider the recent government takeover of Silicon Valley Bank in the United States. This classic bank run caused ultimately by higher interest rates on US government debt has strongly altered expectations for US monetary policy. Because of concerns about other institutions being affected, banks raising deposit rates to retain customers whilst reining in some lending, the outlook for US growth has deteriorated.

US wholesale interest rates have fallen strongly, and this has fed through to lower rates in New Zealand. These declines might prompt a new round of fixed interest rate declines shortly. But there remains a very high level of uncertainty regarding the speed with which inflation here and offshore will decline in response to tighter monetary policy.

So, whatever does happen in the next few weeks, it would be best not to expect that some hopefully contained financial wobbles lead to rapid declines in borrowing costs. The dynamics driving inflation appear stronger than in the years between the Global Financial Crisis and the pandemic and that means interest rate falls are likely to be slow over the next two years.

For investors there is good and bad in this. The bad is that some new hesitancy regarding extra tightening of monetary policy from current levels will limit further rises in bank deposit rates. The good is that those deposit rates will be slow to decline once they do start easing. Then there is the good stemming from the improving interest rates outlook.

Interest rates are strong drivers of the housing market and forecasts are shifting from horror levels near 8% towards rates slowly easing. That is why most people are fixing their interest rate just one year or two years at most. And it pays to note this unusual thing. The Reserve Bank raised their official cash rate 0.5% on February 22. Since then, there have been no increases in main bank mortgage interest rates. Technically speaking, no monetary tightening occurred back then.

Tony Alexander is an independent economist and produces a free weekly publication with a housing focus called “Tony’s View”, available for signup at www.tonyalexander.nz

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