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Why rate hike could be RBA's biggest dilemma

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While RBA sees the next rate move to be likely upwards, certain circumstances make it appear practical for the central bank to do otherwise

The Reserve Bank of Australia seems to be in a big dilemma right now — while it sees the next rate move to be likely upwards, certain circumstances make it appear practical for the central bank to do otherwise.

In a think piece on Bloomberg, industry watcher Michael Heath said that given the projections of a continued decline over the next number of years, it makes sense for the central bank to cut rates.

"Typically in such circumstances, the RBA would cut interest rates to support the economy, making mortgages more affordable and luring buyers back to the market," he said.

However, rates are already at record-low at 1.5% and wages remain stagnant. With this, it seems like the only way to spur interest amongst buyers is to see prices decline further.

"And there’s another worry for the market: banks have become more nervous about lending, partly because of tighter standards and partly as a result of a government inquiry that’s revealed misconduct among lenders," Heath said.

Furthermore, Australian households are still swimming in debt, with debt-to-income ratio sitting at 191%.

"That and tepid wages makes it tough to raise rates even if the economy warrants it — indeed, it could be the RBA even ends up cutting," he said.

Still, there are no reasons to worry just yet. Heath said for most homeowners in Sydney, the downturn "feels more like a pullback", given that prices are still 60% higher than they were in 2012.

"But it would be a much different story if the economy suffered a shock. That might generate a vicious circle of house prices falling as people lose their jobs and fail to meet mortgage repayments, forcing them to sell. That would really exacerbate the downturn," Heath said.

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