Why RBA is more than pleased to see Sydney and Melbourne's gradual collapse

By Gerv Tacadena

The Reserve Bank of Australia is happy that the gradual slump is actually helping ease the high level of household debt.

While there are no strong signs that the housing market in Australia is heading towards a sudden implosion, the central bank could not be any delighted with the way home prices are slowly declining, particularly in Melbourne and Sydney.

Industry watcher Karen Maley, in a think piece for the Australian Financial Review, said the gradual decline in dwelling prices in Sydney and Melbourne was the preferred scenario for the Reserve Bank of Australia. In Sydney, prices have already declined by almost 5% over the past year.

RBA is closely watching property prices due to their correlation with household indebtedness, which has been increasing to an alarming level.

"As house prices surge, households start to panic that they'll be priced out of the market. This encourages them to load up with even larger mortgages, helping to push Australian household debt levels even further into nosebleed levels," Maley said.

While this situation is not unique to Australia, the country has seen household debt outpace household income over the past three decades.

The culprit? There are two: falling interest rates, which paved the way for bigger debts, and financial deregulation which gave borrowers access to finance.

"Where we are unusual is that we're more inclined than most to borrow in order to invest in housing, and this has helped push Australia's household debt to income ratio to a record high of close to 200%," Maley said.

This industry behaviour has already posed risk to the economy given that people with bigger debts are more likely to cut spending.

Despite remaining cautious, the central bank maintains its optimism, hoping that Australia will succumb to the effects of the debt binge.  

The only other puzzle piece will be for Australia to maintain its robust economic activity, which will spur jobs and increase wage growth.

"[This] will make it easier for households to shoulder their debt burdens," Maley said.

Another reason to stay positive is the pending work in the pipeline for New South Wales and Victoria, which will certainly keep the construction activity busy despite falling home prices.

"Inevitably, there are risks. Soaring household debt levels could crimp consumer spending, especially if wages growth remains weak. Alternatively, consumer confidence could be hit hard if, as seems increasingly likely, the country's big four banks decide to follow their smaller rivals in nudging mortgage rates higher to reflect the rise in funding costs," Maley said.

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