SYDNEY (Reuters) - Australia’s mountain of mortgage debt is an even greater deadweight on consumer spending than previously thought, a central bank paper argued on Thursday, suggesting recent rate cuts might not be enough on their own to revive activity.
The research from the Reserve Bank of Australia (RBA) is of concern as the country’s household debt to disposable income ratio has skyrocketed to an all-time peak of 190%, easily among the highest in the developed world.
Most of that is home loans, and the paper found it was this type of debt that has the largest impact on spending, even when taking into account rising incomes and house prices.
“Higher mortgage debt is associated with less spending even when we control for changes to net housing wealth and cash flow,” the research paper concludes.
“Overall, the negative effect of debt on spending is pervasive across households with owner-occupier mortgage debt.”
It could be one reason household spending has been unusually weak in Australia since the global financial crisis, weakness that dragged economic growth to a decade-low early this year.
Regular research papers from RBA staff do not necessarily express the views of the policy-making board, but are often discussed at its monthly meetings.
Households are critical to Australia’s A$1.9 trillion ($1.3 trillion) economy, accounting for about 56% of annual gross domestic product. Weak wage increases, fears over job security and high levels of debt have meant private consumption is the single biggest drag on overall growth over the past year.
That prompted the RBA to cut interest rates twice since June to a record low of 1%. Financial futures <0#YIB:> see a real chance of a third move before Christmas that would take the cash rate to an unprecedented 0.75%.
RBA Governor Philip Lowe has also taken the unusual step of openly calling for more action on fiscal stimulus and infrastructure spending to support growth, noting that the effect of lower rates has waned over time.
The paper suggests one reason for the diminished impact is a “debt overhang effect”, where households cut back on spending when they have higher levels of mortgage debt.
“We find the overhang effect to be pervasive across owner-occupier households and not exclusively driven by households that are financially constrained or that have strong precautionary saving motives,” it said.
The study estimated that a 10% increase in debt reduced household expenditure by 0.3%. This held true even when any rise in debt was matched by a rise in the value of their assets, a finding at odds with conventional economic theory.
It also made households more sensitive to economic uncertainty.
“We find evidence that indebted households reduce their spending by more than other households during adverse macroeconomic shocks, such as the global financial crisis, but the negative effect of debt is also pervasive at other times.”
Reporting by Swati Pandey; Writing by Wayne Cole; Editing by Richard Borsuk