By Alex Tarrant
The Reserve Bank is warning that excessive house price inflation could lead to a higher Official Cash Rate if the recent pick-up in activity, particularly in Auckland, continues.
But it says it doesn’t expect the current pick-up in house price inflation will have the flow-on impact to household spending that was seen through the mid-2000s.
Nonetheless, there was a risk that house price inflation would accelerate further, particularly if supply was constrained by continued low residential construction activity, it said.
The household sector had exhibited a cautious approach to investment and saving since the global financial crisis.
“Housing turnover has been relatively weak and household borrowing has tracked well below its historical relationship with housing activity,” the Bank said.
“Many householders appear to have taken advantage of low interest rates to increase the principal repayments on their mortgages.
“More recently, however, household credit growth, housing market turnover and house price inflation have all picked up. Aggressive competition for mortgage lending and lower bank funding costs have seen mortgage interest rates reduce from already low levels.
“Combined with a relaxation of maximum loan-to-value restrictions by some lenders, lower interest rates appear to have increased the attractiveness of housing for potential first-time buyers, leading to a rise in the share of high loan-to-value ratio lending throughout 2012.
“If the housing market continues to gather momentum, there is a risk of a stronger pick-up in household credit and further increase in house price inflation,” the Reserve Bank said.
Such developments would have implications for the appropriate stance of monetary policy.
“Higher house price inflation and increased household expenditure would likely lead to higher inflationary pressures than is currently projected. All else equal, such a development could necessitate a higher OCR,” the Bank said.
“Beyond the risks to inflation, the Bank would also be concerned by such developments from the perspective of its mandate to promote the soundness and efficiency of the financial system. As reviewed in the latest Financial Stability Report, a credit-fuelled expansion in house prices would expose households and banks to a sharp fall in house prices,” it said.
But is that coming?
The Bank noted recent building consent and housing turnover data suggested underlying residential investment would rise in the near term.
It said house price inflation continued to accelerate in some regions, particularly Auckland.
“The Bank does not expect this pick-up to substantially increase generalised inflationary pressures,” it said.
“House price inflation is expected to moderate, with house prices already very high. Furthermore, given household focus on consolidation, it is unlikely that the current pick-up in house price inflation will have the flow-on impact to household spending that was seen through the mid-2000s.
“That said, there is a risk that house price inflation does accelerate further, particularly if supply is constrained by continued low residential construction. Excessive house price inflation would be concerning both from an inflation targeting and financial stability perspective.”
Prices still relatively high
Residential construction activity had been subdued since the 2008/09 recession, with per capital investment declining through to the beginning of 2011.
“Tight credit conditions, tax changes and households’ focus on debt consolidation are all likely to have restricted housing investment. More recently, household credit and growth and sales have picked up from low levels,” the Bank said.
“Together with a lack of new housing supply, these factors have supported growth in house prices. Over the past year house prices nationwide have increased by 5 percent. While this rate of growth is around average, house prices seem elevated relative to fundamental factors, such as income levels and rents,” it said.
“In Auckland, house prices are growing at a faster rate than elsewhere in New Zealand.”