Opinion: The Reserve Bank looks very likely to ease up on the banks' mortgage lending restrictions to low deposit house buyers

By David Hargreaves

The country's banks may well very soon be able to let their belts out a little when it comes to low deposit lending. And it will be the first home buyers who can breathe a little easier.

Figures out last week for the first six months of the Reserve Bank's  'speed limits' on high loan-to-value lending appear to have well and truly paved the way for the RBNZ to loosen the limit from the current 10%.

I would speculate that the central bank will lift it to 15% and I would further speculate that this will be announced in conjunction with the RBNZ's six-monthly Financial Stability Report on May 14, which as it happens is one day before this year's Budget.

I confess I had earlier thought the RBNZ might remove the LVRs altogether about now, but would have to concede it appears that loosening the limit will come first - though presumably removing the LVRs in entirety might not be that far down the track either. In fact I would still suggest this will be done in 2014 - but quite a lot might depend on the banks' reaction to the more relaxed limit.

The figures for the first six months of the LVR limits, which constituted the first official 'test' of whether the banks met that 10% limit or not, showed that in total the banks had, after certain exemptions, combined high LVR lending in that six month period of just 5.6% of all new mortgage lending. According to the RBNZ all banks were under the 10% mark.

Even if the exempt loans (including such things as Welcome Home loans) were included in the overall calculations, high-LVR lending came in at just 6.8% of the banks' total new mortgage commitments between October and March.

While the RBNZ is by all accounts pleased with the way the limits have taken some steam out of the housing market, there seems little doubt that the 10% limit has proved too restrictive.

In all probability the RBNZ would be happy with high-LVR lending of no more than say 20% of total new commitments. Prior to the introduction of the LVR limits the high-LVR lending was running at more that 30% and had been increasing markedly in recent times.

So, the RBNZ wanted to give the banks a bit of a short, sharp, shock - and produced a 10% figure that was much lower than the banks had been anticipating.

However, the RBNZ has gone on record as saying it expected that including exemptions banks were likely to run high-LVR lending at around 15% of the total – that’s 10% for the limit and 5% worth of loans that were exempted. In the event, as can be seen, the lending has been less than half of that 15%. The RBNZ has admitted surprise and says a contributing factor has been that the quantum of exempted lending has been much lower than it expected (only around 1% versus a projected 5%).

So, do the very low high-LVR lending ratios mean that the LVRs policy has been 'more successful' than intended?

Well, not really. Certainly in the first few months of the LVRs it appeared virtually impossible for low deposit people to get a mortgage - because the banks staged a near complete retreat from high-LVR business. Anecdotally the tap has been turned on again a little, though this has not yet come through in available figures.

It's to be presumed that the RBNZ's intention was to crimp high-LVR lending, not kill it.

The real question is, why have the high-LVR ratios for the first six months of the restriction come in so low? Well, we know the RBNZ appeared to over-estimate the amount of exempted lending. But that's only part of it.

Being cautious

Because the RBNZ made adhering to the restrictions a condition of banks' registration there was no way the banks were going to risk overshooting the limit. So, they were from the outset being cautious. In more suspicious moments I have wondered whether the banks have deliberately undershot the LVR targets so that the difficulty of first home buyers in obtaining finance is, shall we say, as visible as possible – this with an election approaching and politicians terrified of the toxic public relations aspect of young Kiwis locked out of homes.

But pushing those suspicions aside, it certainly does seem from the outside looking in that the banks might have had considerable difficulty in deciding what an appropriate level of high-LVR lending might be on a monthly basis.

It might seem a statement of the obvious, but how is a bank supposed to put a monetary value on the extent of high LVR lending, when it doesn’t know exactly how much total lending it can do month-by-month? Before the limits were put in place banks were putting a lot of effort into attracting high-LVR business. After the limits there was a switch in emphasis to attempting to attract customers with deposits above 20%. Anecdotally the banks appeared to have had rather more success than they thought in attracting such business.

So, what appears to have happened is that total mortgage lending has grown more than banks anticipated, which has resulted in the high-LVR ratios being much lower than anticipated.

To give a very basic example, if Bank A was anticipating that its new lending in a given month might be $100 million then, to be safe, it would commit to lending no more than $10 million (IE 10%) to high-LVR customers. But perhaps the marketing people do rather better than Bank A was expecting and the bank's total lending ends up being $200 million. Suddenly instead of that $10 million of high-LVR lending being 10% of the total, it is just 5%.

And this appears to have been what has happened with the banks.

A bigger buffer

The upshot is that the 'buffers' banks have given themselves in ensuring they don't bust the limit have been much bigger than might have been expected. While the banks might have been targeting giving themselves 2-3% of wiggle room in meeting the limit, the fact is that because their total lending has increased by more than anticipated the 'buffer' across all the banks has ended up over the first six months of the LVR restrictions being a canyonesque 8-9% depending on whether you include or exclude exemptions.

Now, presumably banks would get better at working out what a 'safe' internal target for high-LVR lending is on a month-by-month basis - a target that neither overshoots nor seriously undershoots (as has happened so far) the 10% limit.

But the RBNZ has probably proven its point. It has reined in the over-exuberance that appeared to be gripping the banks last year.

If the first six months' figures are anything to go by, a relaxation of the LVR limit from now to 15% may well produce a ratio of only 10% of high-LVR lending in any given month anyway. Presumably the RBNZ would be very happy with that.

So, I’m picking that’s what will happen. And then maybe we’ll see a further lift in the limit to 20% a few months down the track and then maybe the LVRs will be gone altogether.

A tidy conclusion

For the RBNZ this would be a very neat and tidy conclusion. The RBNZ will also likely be able to take a pause from raising interest rates after June until following the election – so taking the steam out of that particular aspect as well. So, while home ownership will inevitably be a hot election issue, the RBNZ will be able to avoid being right in the middle.

In terms of what happens when the LVR limits are loosened, with a view to removal, a lot will, as stated earlier, depend on how the banks react to a loosening of the limit. If there is any sign that the banks are starting to push up against the limit and blow out their high-LVR lending again then perhaps the RBNZ will be encouraged to leave the limits on longer.

Likewise once the limits are gone the RBNZ will be watching for any return of that exuberant approach that worried them last year. The limits can be reinstated very quickly and with the way the RBNZ got the banks to jump into line this time, the central bank would be very confident of being able to do that again.