In the past week, three of our four major banks have changed their outlook for house prices and are now predicting the biggest housing crash in decades. It will I be right?

Economists at Commonwealth Bank and National Australia Bank are forecasting house prices to fall by 10% next year and Westpac forecast house price falls of 7% in 2023 and a further 5% in 2024.

The forecasts are predicated on the assumption that the Reserve Bank will begin raising interest rates later this year and housing will be "collateral damage in the RBA's efforts to keep inflation on target in the medium term.

But how likely are these forecasts to come about?

The Australian banks don't have a good track record of housing market forecasts.

I remember two years ago, in March 2020, when the same economists who are making these let's call them "interesting" predictions today, similarly predicted a double-digit fall in house prices to occur then, and that didn't eventuate.

They underestimated the strength and resilience of the housing markets.

This time last year the same economists were late to the party and only after our property markets turned the corner almost 6 months earlier, they realised what was really happening on the ground and forecast strong price growth for 2021.

However, once again they underestimated the strength of our housing markets and the strong price growth that ensued.

But if price rises house prices fall by the amounts predicted this time around, that will make it the biggest housing downturn in modern history.

While we have seen various housing market segments suffer significant price falls, we haven't seen the overall Australian housing market crash like these economists are predicting.

The last time property took a downward turn was in 2018, when Australian house prices plunged by about 5 percent overall.

Prices also fell 4.8 percent in 2011 after a period of post-global financial crisis rate rises from the Reserve Bank.

Those falls pale in comparison to what banks now predict. They are quite remarkable forecasts.

Historically we've only had three years of falling prices since 1987.

Why would house prices fall?

Let's be clear… the Reserve Bank doesn't want the housing markets to crash.

It wants that about as much as it wants another strain of coronavirus.

Reserve Bank interest rates are currently low to bolster the economy and stimulate inflation and wages growth.

Once the Reserve Bank believes inflation is comfortably and consistently within its desired band of 2 -3% and unemployment is low enough to cause significant wages growth, then the RBA will slowly raise its interest rates from stimulatory levels to neutral levels.

Of course, there is some conjecture as to how high a neutral interest rate is, but considering the general level of Australian household debt, it is unlikely to require a big rise in rates.

There is no reason for the Reserve Bank to raise rates sufficiently high to create a recession or a housing market crash.

While falling interest rates increase borrowing power and stimulate higher house prices, historical data shows it takes time for rising interest-rate to drive lower price growth.

Why home prices won't crash

While falling interest rates create extra borrowing capacity and therefore increased housing affordability, rising interest rates do not necessarily cause house prices to fall.

While some commentators are concerned rising rates will cause mortgage defaults there are several reasons why this is unlikely to occur:

In general, Australian households are richer than they ever have been and have more equity in their homes because of our property boom.
Banks' stringent lending criteria have only ensured they have only been lending to borrowers who could withstand a 2 or 3% rise in interest rates.
Many Aussie households have taken advantage of the current low-interest-rate environment and are three or four months ahead in their mortgage payments.
Our economy is bounding along, unemployment levels are low and with the prospect of wages rising ahead, most households should not feel mortgage stress.

US inflation at 40-year high: Will Australia follow?

Last week the United States announced its official inflation figure jumped 7.5 percent in the last year, the largest spike since 1982.

A rise in inflation was expected, but this was higher than most economists anticipated, and the US Federal Reserve has already flagged interest rate hikes to cool rising prices.

Of course, inflation has been rising globally, with many central banks raising rates or at least flagging future rate rises.

The Reserve Bank of Australia (RBA) is one of the few central banks brushing off inflation fears, insisting Australia's economy is in a different position.

Links and Resources:

Michael Yardney

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Dr. Andrew Wilson, Chief Economist My Housing Market

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Shownotes plus more here: Major banks predict a 14% house price drop. They're wrong! With Dr. Andrew Wilson

Some of our favorite quotes from the show:

"Let's be clear, the Reserve Bank doesn't want the house market to crash, it wants it about as much as it wants another strain of coronavirus." – Michael Yardney

"The problem is, if you look for evil, you'll find it." – Michael Yardney

"It doesn't take much imagination to realize we're going to keep improving." – Michael Yardney

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Pete the Planner talks about the virus, the impact on the economy and what to think about your portfolio