Sydney’s soaring property prices are not expected to slow any time soon, possibly putting the brakes on further rate cuts from the Reserve Bank.
Prices in Sydney have grown at the equivalent of an annual pace of 25 per cent since the RBA's February rate cut, property valuation firm Propell says in its latest housing report.
And it's this massive growth that is holding the RBA back from another rate cut.
"Sydney remains the biggest headache of the RBA as it seeks to balance the needs for economic growth against boom conditions in Sydney," the report said.
"At the equivalent of 25 per cent per annum growth, it is too much for the RBA, which has put cash rate reductions on hold, primarily because of this market."
A rate cut is widely expected to occur in May, but that could be delayed as the RBA tries to keep a lid on Sydney property prices, Propell said.
It expects Sydney's market to remain white hot in 2015, with prices soaring another 15 per cent after 2014's 15 per cent rise. It's a different story for the rest of the country, with price growth of just 1.4 per cent expected.
Prices in Brisbane, Adelaide, Hobart and Darwin are no higher now than they were five years ago, the report said.
"The word `boom' only applies to Sydney", Propell said.
Foreign investor demand is pushing prices higher in Sydney and Melbourne, and proposed new rules for offshore buyers are not expected to have an impact.
"The lower exchange rate means that for foreign buyers, Sydney prices in US dollar terms are unchanged on last year and remain attractive, while the rest of the country has gotten cheaper in US dollar terms," the report said.
National Australia Bank economists said Sydney's house price resurgence suggests the RBA's capacity to further cut rates could be "severely constrained".
Foreign investors had played a significant role in driving strong apartment construction approvals, with 16 per cent of new sales going to foreigners, and around 30 per cent in Melbourne, they said.
"While recent attempts to tighten foreign investment rules may slow demand eventually, the reality is that the existing approvals will be built - and contribute to the reallocation of resources from mining to the non mining sector," they said.
HSBC Australia chief economist Paul Bloxham says he expects the Reserve Bank to hike interest rates in 2016, a move that will cool Sydney's booming property market. "Sydney house prices are running at an unsustainable pace," he said.
"Purchasers need to be very careful, because at some point there has to be some correction."
HSBC is forecasting Sydney house prices to be broadly flat in 2016 rather than suffer a big fall. "The more Sydney house prices go up, the more likely it is that they will have to correct, and that's not necessarily a bubble," Mr Bloxham said.
Sydney property prices surged a whopping 12.4 per cent in 2014, according to the CoreLogic RP Data home value index. The market has continued its strong run into 2015, with prices up three per cent in March alone.
With the Reserve Bank tipped to cut interest rates later in 2015, prices could rise even further. Mr Bloxham said a cut to the RBA's cash rate from its record low of 2.25 per cent would help boost the sluggish economy, but there was a risk it could overheat the Sydney and Melbourne housing markets.
One alternative to boosting growth, he said, was for the federal government to postpone its attempt to balance the budget until 2016/17 when the economy will likely be stronger.
"The government tried to tighten up fiscal policy last year when the mining boom was over," he said.
"When growth in the economy is sluggish, that is not the time to tighten fiscal policy."
Mr Bloxham is confident the government has learnt its lesson from last year when a harsh round of budget measures were a blow to consumer confidence and retail spending.
"I do think we're likely to see that this year's budget will likely to be less damaging to confidence than we saw last year," he said.
"I think we will see a bit more support for the economy from the fiscal situation, we certainly should see a bit more support."
HSBC is forecasting economic growth to increase to three per cent next year, from the 2.5 per cent pace of 2014, and says commodity prices are not likely to fall much further in 2015.