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Thursday Feb 24, 2022

Does increasing repo rate mean a rebound for rental market?

The repo rate, which directly impacts interest rates, affects many aspects of an economy, such as the exchange rate and money supply. As such, it can be used to manipulate spending to reach certain economic goals. For example, when spending and hence economic activity is low, the Reserve Bank may lower the interest rate to lower the cost of borrowing money, effectively incentivising consumers, and investors to borrow and spend more, thereby stimulating economic growth.
 
This, in turn, can drive up prices and inflation, which can be detrimental to an economy in the longer term. To curb this, central banks may raise interest rates. The USA, for instance, is currently experiencing its highest inflation levels in decades, and the expectation is that interest rates there will be hiked soon. After a small recent hike following a long period of low rates, South African rates are also widely expected to be increased in small increments this year and beyond.

The relationship between the repo rate and rental growth rates

Does the same inverse relationship exist between the repo rate and rental price growth, whereby higher rates will put downward pressure on rental inflation?
 
Due to the pandemic, rental growth was subdued throughout 2021. The market hasn't seen year-on-year increases of more than 1% since Q3 2020, which is a far cry from the increases of 4% year on year in 2019.

In response to the cooling effect of the pandemic on consumer spending, the Reserve Bank's Monetary Policy Committee dramatically lowered the repo rate. In February of 2020, it stood at 6.25%. By the end of July, 5 months and 4 rate adjustments later, the rate was at 3.5%, the lowest it has been in decades. The prime lending rate consequently changed from 9.75% to 7% during that time.
 
Meanwhile, over the same period, rental growth halved, and declined further to just 0.2% year-on-year at the end of 2020.

It went on to stay below 1% for the whole of 2021.

Johette Smuts, head of data analytics, says PayProp has plotted the rental growth rate against the repo rate over the last three years and calculated the correlation* between them (see explanation of the calculation below).

"The yearly correlation for 2019, 2020 and 2021 were all positive but of varying strength, ranging from 0.23 in 2019 to 0.84 in 2021. However, the calculation over the full three-year period yields a figure of 0.94 – indicating a very strong correlation indeed," she says.
 
What does this mean for the rental market?

Smuts explains that it would be easy to imagine that changes in the repo rate directly cause changes in the rental growth rate. "This is not true; they simply correlate or occur together. The reasons for this are a bit more complex."
 
She says it is more likely that the concurrent change in both indicators comes from having the same underlying economic factors, although interest rate decisions are also influenced by global economic trends. Either way, the strong correlation indicates that we could see a rebound in the rental growth rate in 2022 and beyond.
 
The forecasted increases in the repo rate could lower inflationary pressures in the short-term, although this is not guaranteed. Many tenants will most likely remain under financial pressure, especially since their incomes didn't keep up with inflation, thereby reducing their purchasing power.

That being said, Smuts says the average arrears position has recovered remarkably well and are in line with pre-pandemic levels. "Looking at the year ahead, we don't foresee any further significant improvements in this area, as arrears figures are back to normal, removing some pressure on rental price growth."

    
 

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