Chart of the Month - August 2023

The squeeze of living costs on Australians

Over the last year to June, inflation increased by a whopping 6% but did you know that the living costs of Australians actually increased by more than 6% over that period and are now at record levels?

The chart below shows the Living Cost Index for different types of Australian households. For the average employee household, living costs increased by 9.6% while for pensioners it increased by 7 percent, both higher than CPI. Both are also at record levels with the increase in living costs over the last year larger than the year following the introduction of the GST. No wonder Dr Lowe at the RBA is saying that “many households are experiencing a painful squeeze on their finances”!

Let’s drill into some of the details.

Mortgage payments

Looking under the bonnet of these increases to living costs, we can see that the largest increase was in the area of insurance and financial services (see chart below). And the largest contributor within that category was mortgage interest payments. Rent falls under the housing category.

In fact, mortgage interest payments have increased 96% over the last year to June for employee households (see chart below). This is not surprising given that the RBA has raised the cash rate from 0.1% to 4.1% in just over a year. And unfortunately for mortgage holders, the RBA may yet raise interest rates further if they are not satisfied with the downward speed of inflation.

Mortgage stress

Given the increase in mortgage interest payments and increase in food and other costs, an increasing number of Australians are finding themselves under mortgage stress.

Around 49% of Australian borrowers were either at risk (29%) or extremely at risk (20%) of mortgage stress in June according to recent Roy Morgan research.

A $400k mortgage now has an initial mortgage monthly payment of $2,726. With average weekly earnings of $1,838.10 in May, this means that a single person with a $400k mortgage is now paying around 34% of their gross salary on mortgage payments. For those living in the capital cities, their mortgages and thus interest payments are much larger than this.

Given these pressures, those falling behind on their mortgage payments are increasing. Recent data from S&P shows an increase in mortgage arrears in every state (see chart below).

The areas with the largest number of arrears are Outback Queensland, South East Tasmania, Outback Western Australia, Shepperton, South West Sydney, and North West Melbourne.

What does this mean for Private Debt in Australia?

Despite the increased financial pressure on mortgage holders, unemployment remains low and the economy is still growing. However, while growing, the economy is slowing and unemployment is starting to increase. Financial pressure on households and businesses will increase. The squeeze will get tighter. Everyone's watching to see how soft a landing the RBA can engineer. The RBA doesn’t want to send the economy into a recession unless it has to.

After 400bps of interest rate increases the RBA has paused the last two months and is watching the economy closely. Interest rates may still go up further depending on how fast inflation falls but we are close to the top of the cycle.

Investors in private debt funds are enjoying high floating interest rates with a slowing but strong economic outlook. They should remain watchful but not concerned at this stage.