Westpac forecasts house prices to rise 4% over coming year as interest rates stay low

By Alex Tarrant

Westpac economists are forecasting a 4% rise in nominal house prices this year as the housing market stabalises due to low interest rates.

Westpac was previously forecasting flat prices over the year. However, prices are expected to flatten out in 2012 and 2013 as rising interest rates next year dampen the housing market again, with real house prices expected to fall slightly over the three years once inflation is taken into account.

The Reserve Bank cut the benchmark Official Cash Rate to 2.5% in March, and is expected to keep it at the record low until either the end of 2011 or beginning of 2012. Along with low interest rates, banks have again begun offering mortgages with as little as a 5% deposit required in a bid to fuel a flat national housing market. Westpac is currently advertising widely its 95% home loans and is also discounts on fees.

“The latest drop in interest rates will add zing to the housing market – we now expect 4% house price growth this year,” Westpac Chief Economist Dominick Stephens said in the bank's latest quarterly economic overview.

Westpac expected annual inflation would be 3% in 2011, meaning real house prices would rise 1% over the year.

“House price growth should contribute to a slightly better consumer mood and some growth in retail sales, although nobody is talking about a return to the helter-skelter of last decade,” Stephens said.

Meanwhile, Stephens said Westpac was forecasting 1.3% GDP growth in 2011 due to disruption caused by the February 22 earthquake in Christchurch. However, outside of Canterbury the economy was displaying "surprising resilience," he said.

"Nationwide, consumer spending and house sales were actually up in March," Stephens said.

After a slow 2011, Westpac said reconstruction activity in Christchurch would help propel economic growth to 4.6% in 2012.

"Construction costs could rise, and inflationary pressures could force the Reserve Bank to hike the OCR. Rising interest rates and the higher cost of construction will crimp the economy outside of Christchurch. To some extent, we will end up with a two-speed economy, with growth concentrated in a single region,” Stephens said.

'Watch for the cranes in Christchurch'

Westpac expected the Reserve Bank will wait until early 2012 before beginning a series of OCR hikes.

"The OCR hikes won’t start until there are cranes on the skyline in Christchurch. But once interest rates do start rising, they could rise rapidly,” Stephens said.

"The exchange rate is expected to stay close to its current highs for some months, underpinned by stellar prices for New Zealand’s main export commodities. Global food prices are soaring. As the world’s biggest net exporter of food relative to GDP, New Zealand is well-placed to benefit,” he said.

A slowdown in the Chinese economy was also a possibility for later this year, and the exchange rate could fall in that scenario, Stephens said.

Up from zero

Stephens told interest.co.nz Westpac bumped its house price forecast up from flat to 4% for the year following the Reserve Bank’s decision to cut the OCR, which resulted in a drop in mortgage rates and which would create "a bit of life" in the housing market.

"We’re already seeing life in the housing market, and that’s something we were foreshadowing last year.," Stephens said.

"I don’t think that is a consequence of the reduction in mortgage rates - so we haven’t seen the effect yet in sales or prices. I think the lift in sales recently is independent of the latest reduction in mortgage rates,” he said.

“It is to do with interest rates, but the latest reduction in interest rates occurred on March 10, so we haven’t seen the effect of that yet because there just simply hasn’t been enough time for people to take that into account in their decisions.

“As we went through 2010, mortgage rates were dropping, net migration was picking up, and I think those things conspired to cause a stabilisation in the housing market. We first started calling that in October last year, and it’s come to pass," Stephens said.

The current lift in sales was only sufficient to stop house prices from falling.

"It’s a little bit further down the track that we’d expect to see a further lift in sales and a [4%] rise in prices this year,” Stephens said.

The current reduction in mortgage rates was also very much temporary.

"Mortgage rates are going to rise again and could rise quite rapidly next year. At that time that will, once again, surpress the housing market, and we’d expect a return to flat price action in 2012 and 2013,” Stephens said.

Over the next three years this would mean a slight real decline in house prices, once the effects of inflation were added to the mix.

“This year there will be a real increase, because our inflation forecast for this year is well below 4%," Stephens said.

"The housing market was stabilising anyway, the latest drop in mortgage rates will create a bit of further zing in the market, and could lead to prices actually rising briefly before returning to flat price action as mortgage rates lift again in 2012," he said.

(Updates with interview with Dominick Stephens, attaches document.)