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THE Reserve Bank has warned that interest rates will have to rise because housing lending levels are still too high.
In its latest statement on interest rate policy, the bank expressed its satisfaction with the fall in house prices.
But with continued economic growth in Australia and overseas, "it would be surprising if Australian interest rates did not have to increase further at some stage in the current expansion".
The latest private sector figures showed prices in the hottest market, Sydney, down 8.5 per cent in the June quarter, the bank reported.
It said the overall slide removed the threat to economic stability posed by the overheating of the housing market last year.
It is highly unusual for the bank to foreshadow future interest rate changes.
Westpac Bank's chief economist Bill Evans said it was the strongest, statement he could recall and indicated it was unlikely there would be enough slowdown in either housing markets or global growth to change the bank's intention to raise rates.
The bank gave no indication of when rates would have to rise.
But market economists do not believe there will be a rate rise before the federal election, predicted for October.
Over the first half of 2004, house prices fallen by 6.5 per cent, according to the Commonwealth Bank, and by 5.1 per cent according to Australian Property Monitors.
The Reserve Bank signalled that rising construction costs were adding more to inflation than oil prices.
It expected its preferred measure of inflation to remain close to 2 per cent this year, before rising to 2.5 per cent by the end of 2005.