Bond market “more psycho than psychic” on interest rates

As of the close of business on Friday, the bond market forecast Australia’s official cash rate (OCR) to peak at 4.10% in mid-2023, 1.75% above its current level of 2 .35%:

Bond market still incredibly bullish on interest rates.

Bond Market OCR forecasts Australia’s average discount variable mortgage rate to climb to 7.45%, well over double the 3.45% that prevailed just before the first rate hike in Australia. Reserve Bank of Australia (RBA) in May, and the highest discount variable mortgage rate. since October 2008:

Australia's Variable Discount Mortgage Rate Forecast

Bond Market: Highest Variable Discount Mortgage Rate Since 2008 GFC.

The impact on Australian mortgage holders would be devastating, with average monthly repayments on a typical variable rate mortgage climbing 56% from their level immediately before the RBA’s first rate hike:

Australian mortgage repayments

Australian mortgage repayments set to soar according to bond market OCR forecast.

For a borrower with a $500,000 mortgage, that would represent a $1,248 increase in monthly repayments — a big hit.

I said upfront that I think the bond market’s OCR forecast is too hawkish and would push Australia into a painful recession if materialized. This is mainly due to the fact that household consumption is by far the most powerful driver of the economy and that consumption would collapse under the combined effect of: 1) Australian households with much less income available; and 2) the collapse of real estate values.

Alan Kohler gave a similar assessment, describing the bond market OCR forecast as “more psycho than psychic”and warning that further aggressive rate hikes from the RBA “to be reckless, heartless and dangerous”. Kohler therefore asks the RBA to stop the rate hikes:

Forecasts for house price declines now hover between 20 and 30%, which would be the biggest drop in history…

A 20% drop in values ​​means that hundreds of thousands of families will be living in a home that is worth less than they paid for, for at least five years, maybe 10.

Plus, many of them will owe more on the house than it’s worth, so they’ll have no equity while saving for repayments and worrying about keeping their jobs…

Is it necessary? In the United States, maybe, but not in Australia…

In Australia, wage growth is around 3%, or half of the increase in consumer prices; and the inflation here is driven by an energy price shock, increased demand from the pandemic cash flood, supply issues and rising profits – not wages.

There are three reasons why the RBA has already done enough.

First, as we have seen, the APRA mortgage repayment buffer was absorbed and house prices began their biggest crash on record.

Second, immigration has restarted and cheap labor is beginning to flow into the country.

And third, commodity prices have already fallen by 20%, including a 35% drop in the price of oil, in anticipation of recessions in the United States, Europe and China.

The RBA has done enough: it would be reckless, ruthless and dangerous to keep raising interest rates.

Hear hear. Australian wages are rising well below the level of around 3.5% that the RBA had previously identified as consistent with keeping inflation within the target range over the medium term.

In addition, the federal government has just launched the largest immigration program in the country’s history, which will add a huge amount of labor next year and destroy any prospect of accelerated wage growth. .

The RBA should ignore the bond market and focus on the local economy. Because he risks breaking it if he walks too far too fast.

Unconventional economist
Latest articles from Unconventional Economist (see everything)

Leslie M. Gill