An academic has warned Illawarra households to protect themselves in the likelihood interest rates will rise in the next two to three years.
An International Monetary Fund report on highly leveraged households references Australia, where household debt has risen to 100 per cent of GDP, compared to other advanced economies where the ratio is at 63 per cent.
The IMF’s Global Financial Stability Report states that in the short-term, an increase in the household debt-to-GDP ratio is typically associated with higher economic growth and lower unemployment, but the effects are reversed in three to five years.
“New empirical studies – as well as the recent experience from the global financial crisis – have shown that increases in private sector credit, including household debt, may raise the likelihood of a financial crisis and could lead to lower growth,” the report states.
The Reserve Bank of Australia has kept interest rates steady at 1.50 per cent at its October board meeting.
RBA governor Dr Philip Lowe said that growth in housing debt has been outpacing the slow growth in household incomes for some time.
Alex Frino, Professor of Economics at the University of Wollongong said there was no suggestion of an economic shock, but the report highlighted the risk.
“Private debt is excessive in Australia, and as the report indicates the total debt-to-GDP ratio exceeds 100 per cent, which is what got many European countries into trouble,” he said.
“But there, the debt was government sector debt, which is different to private sector debt.”
Prof Frino said “this is an important wake-up call” for the Illawarra.
Census figures indicate that in the Illawarra region from 2006 to 2016, the median monthly household mortgage repayment increased 36.5 per cent to $1950 per month.
“For NSW, it’s only increased 30 per cent," Prof Frino said.
“That's increased that much when interest rates have fallen dramatically... So it's got a lot cheaper to acquire debt, and Illawarra residents appear to have done it en masse.
“The risk that's highlighted by the IMF is particularly acute for the Illawarra.”
Prof Frino said it was “possible, and highly likely that interest rates are going to rise in the next 24 to 36 months”.
“The median house price in the Illawarra region is $650,000. So a loan of that magnitude means that a one per cent rise in interest rates equates to a $6500 increase per annum in the amount of interest you’ll have to pay.
“Borrowers need to protect themselves, and ensure that they factor into their borrowing the likely interest rate hikes that we’re going to see in the next 24 to 36 months, which could be in the order of one per cent, but probably more.
“People have two to three years to really pay off their loans, to a point where if we get to a one to two per cent rise in interest rates, that they can manage that, relative to their income.”