Loosening the mortgage belt: household interest payments at a 35-year low

The share of household income being used to pay interest on debt has fallen to the lowest level in 35 years, freeing up tens of billions of dollars a year to be spent in other ways.

Interest paid by Australian households dropped to about 5.5 per cent of disposable income at the end of December, analysis by AMP Capital shows.

That compares to nearly 9 per cent in mid-2019 and more than 13 per cent in 2008. Household interest payments as a proportion of disposable income are at their lowest mark since the mid-1980s.

A fall in interest payments as a share of disposable income has injected billions into the household sector.Credit:Jessica Shapiro

The decline has been driven by plunging official interest rates which were cut to an unprecedented low of 0.1 per cent in November.

AMP Capital chief economist Shane Oliver estimates the fall in interest payments as a share of disposable income is injecting about $9 billion more into the household sector each quarter compared with two years ago. “That in turn has supported consumer confidence and spending,” he said.

Many borrowers have used savings from lower interest payments to reduce debt. The Reserve Bank says “substantial payments” were made into mortgage offset and redraw accounts between March and December last year. This amounted to about $40 billion, or 4 per cent of all disposable income.

“The increase in payments is likely to reflect a combination of reduced opportunities for spending, mortgage holders saving for precautionary reasons, and some borrowers depositing cash received from early release superannuation and fiscal payments into these accounts,” the Reserve’s February statement on monetary policy said.

Household interest payments climbed to about 10 per cent of disposable income in the late 1980s when official interest rates surged to 18 per cent. The proportion of income used for interest payments peaked again in 2008 at 13.3 per cent when the effects of the mining boom helped push interest rates higher.

But interest payments as a share of household disposable income have been in decline for a decade even though rising property prices have pushed household debt as a proportion of income to record levels. Mortgage borrowing makes up the majority of this debt.

There were concerns at the onset of the coronavirus crisis that rising unemployment would put many home borrowers under financial stress. Banks announced six-month loan payment deferrals in March 2020 for those affected by the pandemic. The Reserve Banks says the share of mortgage holders with a repayment deferral arrangement in place had declined to 2 per cent at the end of December, down from a peak of 8 per cent at the end of June.

“Since September, around 85 per cent of borrowers that have exited their deferral arrangement have agreed to resume full payments,” the RBA said.

But there are economic risks associated with the rapid fall in interest payments because even a modest increase in rates will require borrowers to devote much more of their income to repayments. This could put recent or very highly indebted households under financial pressure.

Dr Oliver says mortgage debts will take much longer to pay off than in the past.

“People are borrowing a lot more than they did 35 years ago,” he said. “The reality is that in a world of low interest rates and low wages growth, it’s going to take a lot longer to get that debt burden down than previous generations.”

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