Fireside Chat Fireside Chat at the AFR Property Summit

Good afternoon, everyone, and welcome, Sarah. Thanks for giving up your time to be here at the AFR Property Summit. Obviously, there’s been a lot of discussion about the recent downturn in house prices here. How much does the RBA focus on house prices in terms of impact on the economy, but also when you’re considering interest rates as well?

Yeah. Look, John, thanks for having me. It’s a pleasure to be here. Look, they are an important part of our focus because the housing market, in its very broadest sense, is an important transmission channel for monetary policy. So we know interest rates have an impact on the housing markets and housing sector, if you like, through a number of different channels. So that’s really why we focus on it. We don’t have a target for house price growth or the level of house prices or anything like that. It’s not what we’re aiming for, but we are interested in it because of its impact through the economy.

Mm. Consensus forecast, give or take, from a lot of the bank and other economists suggest that maybe national house prices could fall in this downturn because of a combination of interest rates and the government’s tax changes by maybe about 10 per cent, a bit more in sort of the interest rate sensitive markets of Sydney where prices are already high. Is that broadly in line with what the RBA’s forecast or assumptions are, or are you …?

Yeah. So, we put out our latest forecast, it’s only a few weeks ago, actually, in August. It feels a bit longer than that now. And in that, we had a technical assumption, and it sat within the sort of range of market forecasts that were out there. And so at that point, some of them were a bit lower than that, actually more in the 3, 4 per cent bracket. Others were sort of the figure that you’re talking about.

In terms of if that kind of size of correction did materialise, we think about it having an impact on the economy through three main channels. One of which we’re already seeing right now, I’m sure many people in the room can empathise with this actually, turnover in the housing market. That’s the most immediate channel through which a house price correction tends to start coming through. We see lower turnover. We already had turnover fall in the March quarter, and again in the three months to the end of June. And based on what we can see around the volumes data, it’s probably fallen again in the current quarter. So that’s the first channel and the most immediate channel.

Second channel that we pay a lot of attention to is the impact on consumer spending, so the wealth effect, if you like. This one’s interesting. I think it might be a surprise for people to hear that it’s actually a relatively small channel. In the near term, it’s quite concentrated on spending that is associated with moving house. So furniture, you move into a place and you want to buy a new sofa because the old one doesn’t fit, that sort of thing. But that’s actually quite a small component of total household spending. It does get a little bigger over a one to two year horizon, as that sort of the general drop in your household wealth comes through and you maybe don’t purchase a car that you might otherwise have purchased. But honestly, that channel is actually quite small. And so, for that to really be substantial and for something that we would really start to see driving household spending, we’d have to see something like that 10 per cent fall if that did materialise, that you said, sustained. So no recovery in house prices over a one to two-year horizon. And so that, at least in historical context, would be quite surprising to see. Normally, what we see here in Australia, house prices do trend down. They’ve trended down before, and they probably will again. We’ll have other cycles in the future. But normally they recover. We see a recovery, right? And in the context of having struggles with supply, and I know much of the conversation this morning spoke to that, if we’ve got a supply shortage, then that’s going to put upward pressure on prices, and we’d expect to see that coming through. So it’s really a question of how deep the downturn is, and then at what point does it start coming back up.

And then the third channel that we pay a lot of attention to is construction activity itself. So, what does this move in house prices mean for the viability of projects for developers and how does that come through in terms of new dwelling construction?

So three channels, multiple channels. But yeah, our sense at the moment is that given everything else that’s going on, that we wouldn’t expect right now to see a recession or anything like that in the economy. That’s not our baseline forecast.

Yeah, we had developers here today saying this housing downturn is going to lead to a full-blown recession, unless the government reverses changes, and that’s tax changes, it should reverse its course. So that’s not in your prognosis?

That’s not our baseline forecast right now. But it is true that we are expecting by going into late ‘27, ‘28 for dwelling construction activity to actually be falling a bit. So, that’s a downturn in that particular sector, and many people in the room will know that, will remember previous downturns. So, we do expect that to happen, but we don’t currently think that we’re going to see a recession, no.

And the turnover impact, you said that’s the most immediate. We’re already seeing evidence of that in the data. What sort of things are we talking about there? Where does that flow through? What parts of the economy?

Yeah. So that’s all the activity that’s really associated with buying and selling a house. I know we’ve got some real estate agents in the room that probably are turning over fewer sales. So that’s one of those components. Conveyancing. Even right down to the movers that help people move property from A to B. All of those services that are associated with people moving house, that’s what gets captured there.

Okay. And with consumptions about, I think two-thirds, 60 or so per cent of the economy overall, how much does this all matter in the grand scheme of the economy? We’re going to see a little bit less turnover. We’re seeing a lot less turnover that flows through to those activities. We see a little bit of an impact from the lower wealth effect and then down the track, construction in maybe the next one to two years. Overall, in the grand scheme of the economy, how much difference does that make, do you think, to GDP overall?

Well, so it’s definitely going to slow things down, and that’s relative to what they otherwise would have been. But I guess it’s worth keeping in mind that in the context of the Board’s decisions earlier this year with interest rates to raise the cash rate three times and what we’re talking about in our Statement of Monetary Policy and what the staff have talked about for some time, what I’ve been talking about for a while, we are just trying to slow things down a bit. We’re trying to rebalance demand and supply in the economy. So we do want to see slightly soft momentum relative to trend. So we’re just trying to take a bit of that inflationary pressure out of the system to bring inflation back down. And inflation is obviously elevated. It’s above target right now. And there’s a number of global factors that are part of that, but we also think that there’s domestic capacity constraints still. And I find it kind of interesting actually, to talk to developers and people in the construction sector, because it’s one of the sectors where we get told quite frequently, "No, we’re still constrained. We can’t get the tradies that we need to do the work that we’ve got on the books. If we could do more, we would. The demand is there, but we really can’t meet it." So actually, we’re just trying to take some of that pressure, if you like, out of the system. That’s what interest rate rises are designed to do. And so in that context, a bit of a slowdown that comes through directly through the housing market and into the broader economy, actually, in terms of the inflation target, is what the Board were trying to do with the interest rate hikes earlier this year.

So paradoxically, this slowdown might actually help the Reserve Bank in its task to get trying to get inflation back under control.

Well, we’ll obviously have to see how it all plays out. But in taking an all other things equal position, which economists love to do, yeah, those three rate hikes at the start of the year, we understand and we know cyclically that will put some downward pressure on house prices and will slow things down a bit in the housing sector more broadly. That is part of what we’re trying to achieve through transmission. We’re trying to just, yeah, cool things off a bit, if you like, to bring inflationary pressures back down.

But what about on the flip side of that? One of the concerns is that we’re going into a supply squeeze potentially for construction and housing going forward. Maybe less investors in the market might be encouraged less to develop new dwellings. Presumably, that could put upward pressure on rents maybe, and that pushes inflation up. Is there a risk here that actually we do get a supply crunch and therefore rents go actually higher?

So we’re definitely paying very close attention to rents. It’s a key component in the CPI, and what we’ve seen in recent years is that the pace of rents growth has been a fair amount higher than it was pre-COVID, and it’s been part of the inflation story, and it’s one of the categories that we monitor and we talk about pretty frequently.

Rents really is a product of what happens in very local markets, actually. It’s the balance of demand and supply in those markets, and then rents will come through. And then obviously, you can aggregate that up to city, state, and national level as an average. So yeah, look, we are very mindful and we do have through our models the type of channel that you’re talking about. And again, it really does depend on what exactly does happen to new supply, what does happen to demand in some of those local markets as well, and where all of that shakes out. But we’re certainly alive to the rents channel. It’s one we pay close attention to.

Excellent. I’m just going to check my questions here. There’s been a lot of debate about how much of a contribution the government’s recent tax changes have made to the softening of the housing market and how much the RBA’s three rate rises, plus the potential for more coming down the pipeline, are having impact. Have you got a view on what’s had a bigger impact? What’s had the majority? What’s had the minority view on the prices and also the other turnover effects and things like that?

Yeah. We really don’t unpack it into all of those different channels very discreetly, because we’re really concerned about the aggregate impact, because ultimately that’s what matters, and that’s what’s going to drive the outcomes going forward from here through the economy. And that’s what really matters for setting interest rates today. We want to understand where we think things are going to play out going forward, and then the Board can make their decisions, and obviously we provide our advice as the staff. So we’ve not unpacked into those different channels. But we do think that, I suppose actually I’d add a third one to the two that you mentioned, the general confidence and sort of consumer sentiment dropped very sharply at the start of the Middle East conflict. It’s come back a bit since then, but it’s still pretty subdued. We think that’s also playing a bit of a role. So there’s multiple things running through the market right now. And those things are all sort of coming together, and things are playing out as they are. And we really do look at it at that sort of aggregate level and then think about what that means going forward.

We’re talking mainly residential property today, but yesterday the Summit was talking more about commercial property. One of those areas is the AI data center boom that we’re experiencing at the moment. What sort of impact is that having on the economy? It almost seems to be working in the opposite direction of the softening in the housing market at the moment.

Yeah, no, it’s quite remarkable, isn’t it? 12 months ago, a few people were talking about this, we started to pay attention, but it’s certainly been a lot larger than we were anticipating, than a lot of people were anticipating. And you’re right, what we hear in our liaison program actually when we talk to the developers that are working on these projects is that there’s a lot of appetite to get this work done. There’s appetite to do it quickly as well. They want these centers built really rapidly, as fast as possible in some cases. And it’s definitely adding to demand. You can see business investment has picked up really strongly over the last sort of nine months or so, 9 to 12 months, double digit growth, and a decent chunk of that is data centers. Not all of it actually, but a decent chunk of it is data centers. So it’s certainly adding to demand in the economy.

The only caveat with it, which is kind of interesting, is that we import a good chunk, if not all, of the equipment that’s actually inside the data center. So as somebody described it to me, we have to build the shed locally, so we need labour and resources and things to do that. But the actual racks, the servers, the wiring, everything else that’s physically inside the shed, we import all of that pretty much. So it comes through as extra demand. But then because we’re meeting some of that demand with imports, it doesn’t add quite as much as you might expect to domestically driven activity. So there’s a bit of an offset there on the import side. But notwithstanding, it is significant, something that we’re now tracking much more closely than we were a year ago.

Is it having an inflationary impact in the sort of infrastructure or housing construction sector more generally for labour and materials? Or is that just a risk at this stage?

So we are hearing some anecdotes about that, about labour that’s being drawn into these projects, and therefore being drawn away from other parts of the construction sector. Still pretty early to know the size of that, though. It could be just one or two stories. It could be a bit more widespread. So certainly, it’s something we’re monitoring, and you can think of it as a risk. But we are hearing some stories about that, particularly in Sydney and Melbourne.

A couple of questions here on screen. Are you concerned with the forecast slowdown of dwelling construction in ‘27 and ‘28? Given the government supply targets, won’t these push up house prices and also increase inflation?

Yeah. Well, so in the context of the slowdown in dwelling construction, yeah, look, that will definitely have obvious implications for the number of homes that are completed. As I said earlier, we expect through the sort of back half of our forecast ‘27, ‘28, that you’ve mentioned there, for the level of dwelling construction activity to fall a bit. So that will be fewer homes completed, if you like. Still positive, but just a bit lower than it is in the previous period.

In terms of what that means for house prices and rents, house prices don’t actually appear in the CPI, so they’re a slightly separate channel. But in the context of inflation more broadly and rents in particular, and we talked about that earlier, yeah, that’s certainly something that we’re monitoring. But it’s also that type of channel, if you like, together with general growth in demand that we have with a country with pretty strong compared to other countries, population growth. Demand is going to keep tracking up over this period as well, and that’s why our expectation is that we will find a bottom to the house price correction, prices will start coming back up. But as I said earlier, it’s a question of how far down and how quickly do they start coming up.

Yeah. An online question asks, "Is the Bathla situation likely to snowball into something bigger to worry about? What are you looking out for?"

Yeah, great question. So we’re monitoring – because our remit in this space, and this sort of goes a bit more into financial stability in the financial system and health there rather than directly into construction. We’re monitoring it, and we always are. It’s our job to monitor it in the context of systemic financial risk, systemic financial stability concerns. And so private credit has been an area that we’ve paid much more attention to recently. It’s grown relatively rapidly in recent years, as I’m sure many in the audience know. We’re definitely monitoring it. We don’t at the moment see systemic signs of stress, so we can’t see that it’s sort of spreading through a bunch of our banks and everything else. But it’s certainly something that we’ll keep an eye on. And clearly, for the people that are directly exposed to that particular situation, the workers and others, it’s a pretty tricky time. But right now, from our perspective, we don’t see a systemic risk.

I’ve got a question here from online. He asks, "Given Australia’s recent migration levels have added significant demand for housing, furniture, appliances and other household goods, how material is migration as a driver of inflation, and is monetary policy effectively being used to offset inflationary pressures created by population growth?"

Yeah. I often get asked about migration and its impacts on the economy because we do have, as I said earlier, relatively high levels of migration here compared to other advanced economies. When we’ve looked at this question, two observations that I think I’d make. One is that while migrants do when they come here, they do add to demand. They need somewhere to live. They go out shopping, they’ll eat in restaurants and what have you. They add to demand. Many of them, and certainly if they’ve come on a working visa, will definitely contribute to labour supply as well. And so they add to demand, but they also add to the supply capacity of the economy. And if we look over a sort of medium-term perspective, those two things actually tend to balance each other out, and we don’t find much evidence for migrants being inflationary in that way. Where we can see some differences is if we get large moves in migration in local rental markets. And the really good example of this actually was through the COVID period. So in the early years of COVID, where we had the border closures and the lockdowns and students couldn’t come into the local economy, we actually saw rents fall in inner Sydney and inner Melbourne around the universities. Fall quite sharply because that demand was taken out, if you like. And then when we reopened and the students came back, those rents started to rise quite rapidly. So I like that as a recent example of how you can see those kind of effects in some rental markets. But on a big, broader picture basis, we don’t see much evidence for migrants being inflationary in the medium term.

Last question from an audience member, then one last one from me. "How do high interest rates slow inflation when the drivers of inflation are external factors such as fuel costs driving up goods and services costs?"

Yeah. Great question. So the question, you’re absolutely right. We can’t do anything about global oil prices with interest rates. So that is what it is. And I have to say, one of the risks that we’re tracking at the moment around inflation, and we are concerned, the Board are concerned about inflation, is global oil prices, which have tracked up quite sharply just in the last couple of weeks. So we’re monitoring that very closely, they’re certainly higher than what we had assumed in our August SMP, given everything that’s played out. We can’t do anything about those. But what we can do with interest rates is make sure that the domestic conditions are such that we haven’t got domestic inflationary pressures. So that’s a question of balancing and keeping balance between domestic demand, domestic supply. And if we’ve got demand that’s running ahead of supply, that can then create those inflationary pressures, those capacity constraints. But we also want to make sure when it comes to these global shocks, that they don’t start to sort of embed themselves and pass into how we all think about inflation locally. So we tend to call those the indirect effects or the second-round effects. We want to make sure we don’t see those. And so that’s something, again, that interest rates can tackle because that’s a domestic focus. So yeah, we can’t do anything about the oil price, but we can do something about those domestic factors, and that’s what we’re really focused on.

A lot of people in this room are interested in what’s going to happen to interest rates. We saw inflation very recently, underlying terms coming around about 3.5 per cent or so. Still quite a way above the 2.5 per cent target. The Monetary Policy Board meets September 28, 29. I think the market’s pricing in roughly about a two in three chance of a rate rise. Does that sound sound? I mean, is the Board going to have to seriously consider raising interest rates again soon?

Yeah, no. Great question. I think the Board have been pretty clear. The staff as well. Certainly myself, pretty clear that inflation is top priority right now. As you said, inflation is above target, has been for some time. And I think more than that, in the August SMP, we’re pretty clear to say we think that the risk to inflation relative to that baseline forecast was skewed to the upside. I mentioned oil just now. That was one of those risks, and we are definitely concerned about that in recent moves. I think also looking at that July data, it’s only one month. You’ve got to be careful. One month of data, you never know. It can sort of swing around and be a little bit volatile. But notwithstanding, if we looked at the components of that, where we did see strength were in a lot of the domestic factors, so market services, new dwelling construction costs that come through, and we talked about rents earlier on, just as three examples. So yeah, look, we’re definitely concerned about that. The Board are concerned about that, and I think they’ve been pretty clear that they don’t really have tolerance for inflation to continue to be, and an expectation that it remains above target for an extended period. So what actually happens? Well, we’ve got more data and more water to go under the bridge before the next meeting. But yeah, the Board I hope have made really clear their concern, and the staff share it. We are concerned about inflation, and if there is a sense that inflation’s going to be stronger than we think in the context of our forecast, that the Board may well have to raise interest rates to tackle that.

Sarah Hunter, Assistant Governor of the Reserve Bank, thanks very much for your time at the Financial Review Property Summit.

Thank you.