How high will interest rates go?
Many Australian mortgage holders and SMEs with business loans are just starting to feel the pain of successive interest rate increases – just how high are they likely to go?
Australians are about to feel the impact of successive increases to official interest rates as banks pass on the costs to mortgage and loan holders. The latest cash rate increase by the RBA to 1.85% came hot on the heels of the Reserve Bank Governor, Phillip Lowe’s comments that there are more to come.
In his recent address to the Australian Strategic Business Forum, Mr Lowe said “…we’re going through a process now of steadily increasing interest rates, and there’s more of that to come. We’ve got to move away from these very low levels of interest rates we had during the emergency.” He went on to say that we should expect interest rates of 2.5%.
How quickly we get there really depends on inflation.
Inflation and other pressures are speeding up the increase frequency
The RBA Governor has come under increasing pressure over comments made in October 2021 suggesting that interest rates would not rise until 2024. At the time however, Australia was coming out of the Delta outbreak, wage and pricing pressure was subdued, and inflation was low. That all changed and changed dramatically. Inflation is now forecast to reach 7.75% over 2022 before trending down. We’re not expected to reach the RBA’s target inflation rate range of 2% to 3% until the 2023-24 financial year.
In the UK, the situation is worse with the Bank of England predicting that inflation will reach around 13% over the next few months. The UK has been heavily impacted by the war in Ukraine with the price of gas doubling, compounding pressure from post pandemic supply chain issues and price increases.
With interest rates rising, what can we expect?
Deputy RBA Governor Michele Bullock recently said that Australia’s household credit-to-income ratio is a relatively high 150%, increasing in an environment that enabled households to service higher levels of debt. But it is not all doom and gloom.
“Strong growth in housing prices over 2021 and early 2022 has boosted asset values for many homeowners, with housing assets now comprising around half of household assets,” she said.
The recent downturn in house prices has only marginally eroded the large increases over recent years. Plus, households have saved around $260m since the pandemic creating a buffer for rising interest rates. This, however, is a macro view of the economy at large and individual households and businesses will face different pressures depending on their individual circumstances.
For businesses, the rate increase has a twofold effect.
It is not just the rate rise and the higher cost of funds in their borrowings. That by itself is significant but at this stage, if anything, it is the lesser issue.
The more significant impact comes from negative consumer sentiment and the flow through effect on sales and cash flow.
- In general, your debts should not exceed around 35-40% of your assets. There will be some exceptions to this with new business start-ups and first home buyers.
- Review the cost of cash in your business, reviewing rates, and the configuration and mix of loans to ensure you are not paying more than you need to.
- If possible, avoid having private debt as well as business and investment debts. You can’t get tax relief on your private debt.
- Keep an eye on debtors and don’t become your customer’s bank.
Talk to your accountant about managing cashflow and your loan exposure
Contact your accountant on 02 9957 4033 for guidance on how to manage the impacts of increases on your current loan arrangements.
This article is provided for information purposes only and correct at the time of publication. It should not be used in place of advice from your accountant. Please contact us on 02 9957 4033 to discuss your specific circumstances.