House prices could tumble by a third – Citi

Australian house prices could tumble by 23% if interest rates peak early in 2023 – but they could fall even further if a wage spiral takes effect, according to a report by Citi.

Property prices have fallen 6.5% from their peak so far, but Citi economists are predicting more price pain to come, forecasting another full year decline after the latest round of Reserve Bank rate hikes, The Australian reported.

The potential for a wage breakout, followed by a crackdown to get inflation under control, could also result in a situation where interest rates skyrocket at the same time unemployment spikes, which Citi said could force house prices down by a third. 

Citi said this was a “downside scenario,” and a more positive outlook could see economic growth hold steady until next year and house prices fall by around 15%, with price drops to taper off by the middle of 2023.

The bank said its harsher forecast of peak-to-trough drops of 23% was spurred by the Reserve Bank’s “most aggressive tightening cycle in decades.” Citi said that property price drops had spread to all capital cities but so far remained “orderly.” The bank had predicted falls of around 15%, with Sydney and Melbourne bearing the brunt with price drops of 15-20% and other capitals falling by 5-10%, The Australian reported.

Read next: Distressed listings on the upswing

However, that scenario was based on lower interest rates, and financial conditions have tightened, spurring expectations of a more severe slump. Citi still predicts that Sydney and Melbourne will lead price drops, but now predicts more widespread drops in other cities, while Sydney and Melbourne will be boosted by migration and possibly more investment thanks to the rental crisis, The Australian reported.

However, the bank said house prices could plummet if a dramatic rate hike spurred a substantial uptick in unemployment, which could increase the risk of “systemic issues” in the housing market.

Citi predicted a “soft landing,” but its worst-case scenario found that if conditions spurred a wage spiral, Australia would fall into recession as the RBA clamped down on inflation, damaging already struggling sectors like construction and driving bankruptcies skyward.

“The rise in unemployment and higher interest rates cause a more disorderly correction in house prices, with a peak-to-trough in house prices of around 33% by the fourth quarter of 2023,” Citi said.