RBNZ hints at further loosening of mortgage lending in non-Auckland parts of the country

By David Hargreaves

While the Reserve Bank is now officially putting the overheated Auckland housing market into the naughty seat, it is at the same time offering the tantalising prospect that the rest of the country may soon see a further relaxation in lending rules.

The RBNZ has already announced last month that for everywhere other than Auckland, the so-called 'speed limit' on high loan to value lending is going to be relaxed from the current 10% to 15%. But now it is hinting that everywhere other than Auckland may soon see yet further relaxation of the rules.

In essence, what was announced last month means that outside of Auckland banks may now increase the portion of new loans that are for in excess of 80% of the value of the house being mortgaged to 15% of their books from the current 10%.

But at the same time, of course, the RBNZ said it was keeping the 10% limit in place for Auckland loans - and was introducing a new Auckland-centric rule limiting loans to property investors in our largest city to just 70% of the value of the property.

The RBNZ has now published a consultation paper about the proposed changes. Consultation is open till July 13 and the RBNZ expects to publish a summary of submissions and its final policy position in August, ahead of the new rules taking effect from October 1.

In the consultation paper the RBNZ says that outside of Auckland "there is little evidence of exuberance in property markets", which suggested that an easing of LVR policy restrictions was appropriate.

"However, there is a possibility that there could be a resurgence in activity as restrictions are eased. This risk is accentuated by continued low interest rates and high rates of immigration."

The RBNZ says that "for these reasons" it was proposed that restrictions be lifted gradually outside of Auckland.

However it then goes on to say: "An initial increase in the speed limit to 15% will allow the market impact to be assessed, and further easing in policy is envisaged if house price pressures remain subdued."

No timeframe is given for when this further relaxation of the rules outside of Auckland may occur - but this comment would appear to raise the possibility that at some stage in the future the rest of the country could be free of LVRs - but Auckland would still have them.

This would complete something of a u-turn that has taken place in the RBNZ's thinking, as it had previously ruled out geographic targeting of LVRs.

But further relaxation of the rules outside of Auckland would be dependent on no re-emergence of pricing pressures. And the RBNZ says in the consultation document that it is expecting that the new rules levelled against Auckland property investors will encourage some to move their sights further afield.

"Outside of Auckland, the policy package would allow the high-LVR share to rise by around 5 percentage points, possibly by more if existing high-LVR lending has been weighted more heavily towards Auckland. We estimate that this could increase ex- Auckland house price growth by around 1%.

"In addition, there could be an additional stimulatory effect if Auckland-based property investors start looking further afield to continue building property portfolios. The Reserve Bank has not attempted to quantify this effect, which may be particularly concentrated in close proximity to Auckland – for example Hamilton and Tauranga. Outside of Auckland, house sales are expected to increase by around 4%."

The RBNZ has previously stated that it foresees the new measures chopping 2-4% off house price inflation in Auckland in the first year, and reducing house sales volumes by about 8%.

In the consultation paper the central bank says there is "some evidence of rising speculative activity in the Auckland property market, which may, in part, be based on unrealistic expectations of future capital gains".

"Where unrealistic expectations exist, a policy response that reduces market momentum for a period of time could help to reset these expectations. As such, the proposed policy could act as a circuit breaker that results in a larger impact on house price growth over time than the Reserve Bank’s modelled estimates suggest."

The RBNZ said that net housing credit growth had been fairly subdued, at 5.2% in the year to April.

"However, households are already heavily indebted, with household debt at 160% of disposable income. Net credit growth has also been held down by relatively strong repayment of existing balances recently, which is disguising strong flows of new lending. Gross lending flows have been running at much stronger rates (see figure 1)."

The RBNZ said that currently Auckland accounted for around a half of outstanding mortgage lending, and "most likely" more than half of new lending flows.

"This concentration of lending in a single geographic market means that developments in the Auckland housing market are of systemic importance to the New Zealand financial system.

"The Reserve Bank’s concern is that the risk of a substantial correction in the Auckland property market is rising, and will continue to rise the more that prices depart from fundamental values."

During 2014 the RBNZ, in conjunction with the Australian Prudential Regulation Authority, ran stress tests of the New Zealand banking system.

"These stress tests featured a significant housing market downturn, concentrated in the Auckland region, as well as a generalised economic downturn.

"While banks reported generally robust results in these tests, capital ratios fell to within 1% of minimum requirements for the system as a whole," the RBNZ said.

"Since the scenarios for this test were finalised in early 2014, Auckland house prices have increased by a further 18%. Further, the share of lending going to Auckland is increasing, and a greater share of this lending is going to investors.

"The Reserve Bank’s assessment is that stress test results would be worse if the exercise was repeated now."

A new speed limit

While the new 70% mortgage limit for Auckland investors was announced as a blanket limit to be imposed by the banks, the RBNZ has revealed in its consultation paper that some exceptions will be allowed.

To that end, it in fact proposes a 2% 'speed limit' on loans above 70% of the value of the property.

"Under a zero limit, even a single loan to a residential property investor at an LVR of greater than 70% would represent a breach of a bank’s conditions of registration. Such a breach could occur if an administrative error inadvertently resulted in a loan being granted," the RBNZ said.

"Further issues could arise with loans that have been approved prior to the introduction of the proposed policy, but have not yet reached the commitment stage. Our expectation is that banks would actively manage their pipeline of lending to ensure the vast bulk reaches the commitment stage prior to the implementation date, but there is a possibility that certain transactions involving long property settlement periods may not be processed in time.

"There may also be special circumstances surrounding property remediation and loan restructures under borrower hardship that warrant loans to be granted outside of normal limits. A small speed limit is likely to be more effective in allowing for these special circumstances than providing extra exemption categories."

Investor debts reduced

The RBNZ said that "over time", the new property investor rule would reduce the number of investors with debt in excess of 70% secured on Auckland property.

"The Reserve Bank estimates the share of investor loans on bank balance sheets with an LVR of greater than 70% will fall from around a third currently to more like a quarter one year after the implementation of the new restriction.

"This would materially reduce the proportion of loans in a position of negative equity in the event of a 30-40% decline in Auckland house prices."

Addressing concerns that the policy could put pressure on rents or impede the supply of new housing in the Auckland region, the RBNZ said it believed that the effect on rental inflation would be "limited".

"Over time there is likely to be some reduction in the supply of rental property, in line with a relative shift from investor to owner occupier purchases. However, this transition will also result in a reduction in demand for rental properties. There could be some upward pressure on rents if this transition results in fewer people occupying each dwelling. However, any effect on occupancy is not expected to be large."

'Misrepresented intentions'

The RBNZ said it was "aware" that customers who buy a property with the declared intention of owner occupation may not always end up owner-occupying the property.

"Similarly, they may buy a new home intending to sell their existing one, but ultimately end up renting it out. This may mean a customer obtains an owner occupation new commitment but ultimately turns out to be an investor. The Reserve Bank wishes to avoid imposing excessive costs on banks, but has a concern that misrepresented intentions could be used by borrowers to avoid LVR restrictions.

"Banks should shift customers from the owner occupier to investor asset class for capital purposes if they become aware that a declared owner occupier is no longer an owner occupier. We anticipate that banks would inquire as to the owner occupancy of the property during credit events.

"We are also interested in whether loan documentation typically requires borrowers to tell banks if the owner occupancy status changes, and whether it would be appropriate for this to become standard practice."