Inflation is back with a vengeance

Mortgage rates as high as 6%, coupled with lower house prices, is a borrower's nightmare

- Alex Dunnin

The International Monetary Fund has painted a bleak picture for world inflation. In Australia, expects inflation this year will be about 4%, but - fuelled by the 10% nominal economic growth forecast from the pre-election federal budget - it looks set to climb higher.

If the US and Europe are anything to go by, we shouldn't be surprised if in Australia it breaks through the 5% or 6% barrier.

Major retailers are warning shoppers to expect not just price rises but price shocks, all the way through to Christmas.

It's easy to see what this could do to interest rates: they're going up, and fast.

About 40% of the money that Australia's banks lend to us comes from overseas lenders - that is, the global credit markets Australian banks have to go to in order to issue bonds and raise capital from investors who trust us to pay it back.

To get a sense of how high our mortgage interest rates could go, we just need to do a little maths. When inflation was subdued and sitting at below 2%, and official interest rates were set at 0.1%, average mortgage rates were about 2.5% to 3%.

If inflation climbs to 5% and official interest rates, as set by the Reserve Bank, climb to, say, 3%, mortgage rates could test much higher boundary lines.