Inflation and the housing market

There is mounting evidence to suggest that Australia’s housing market rests at a critical juncture. The evolution of Australian dwelling values since 2000 and 2006, respectively show the latest innovation in the housing cycle, where overall Australian home values have tapered by a modest 2.3%. So the question here is what lies ahead?
Sydney dwelling values have massively underperformed the rest of the Australian market over the last 11 years or so according to current data even though the Perth and Brisbane housing markets have suffered 7.5% and 5.9% declines in the past year, they have actually been our two best-performing conurbations over the past 11 years.
The near-term destiny of Australia’s housing market very much depends on next week’s second-quarter inflation numbers. If inflation is low, the RBA will likely be on the sidelines for the rest of the year. It can argue that it was vindicated for not responding to the very high first-quarter results, and will in any event be downgrading its economic growth forecasts for 2011, which were always on the high side.
Talk in the media will galvanise more firmly around rate cuts. Consumers will start to scale back their still extraordinarily hawkish interest rate views  with 84% anticipating rate hikes. Given the average Australian thinks he will be hit by two or more rate hikes in the next 12 months, it is no surprise that underlying economic conditions have been so soft.
In this low-inflation scenario with no future hikes and the prospect of cuts, the forecast predicts that Australia’s housing market has the ability to start grinding out very modest capital growth, which, of course, should be complemented by healthy rental returns

In the less favourable alternative, where inflation next week is reported high – at, say, 0.8% for the quarter or more the central bank will be very much on the interest rate warpath. That means the likelihood of a rate hike, or hikes, before the year is out and the hold that the RBA currently has on Australia’s housing market will only tighten.
The divergence of beliefs between economists and the financial markets are that ANZ’s interest rate forecasts contrasted against the futures market’s expectations. Whereas the futures market is predicting rate cuts, ANZ thinks we will get hikes.
Who is right? That all depends on inflation. So, if you are looking to buy but have not found a place yet, you should be hoping for a high inflation outcome, which will inevitably result in persistent, interest rate-induced pressure on prices. If, on the other hand, you are looking to sell, you should be praying for a low number next week