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Opinion: An experiment that could blow up in our faces

Opinion: An experiment that could blow up in our faces

By David Hargreaves

So, the Guv'nor's gone and done it.

Credit to Graeme Wheeler. There is nothing half-hearted about the way he has slammed "speed limits" on the bank's high loan to value lending. 

The 10% of their new lending that banks will now be able to put into mortgages in excess of 80% of the value of the property is a much harder target than the banks expected.

Even if you take the "effective" figure that the Reserve Bank calculates after various exemptions, of 15%, that compares with the 30% that banks have been doing recently.

While the RBNZ would bridle at such a suggestion there is no doubt that this is experimental. This is a new power the central bank has and it wants to see what sort of an impact it will carry.

Arguably by acting now before the market is really, really, overheated, the bank can gather valuable information on whether this particular "macro-prudential tool" is one that the bank wants to keep taking out of the box. Or whether once used it will be put away not to be touched again.

But personally, I still think the RBNZ would have been better to go with an interest rate rise now and to hell with the dollar. Risky, yes. But I would argue not as risky as leaving the interest rates alone and now - because the LVRs have been put in place - waiting longer to do the first hike of rates.

There seems to be blanket acceptance that the whole problem with the rising house market is simply down to a lack of supply. Clearly, when you look at Auckland, the building of new houses has lagged population growth.

However, I don't think that's the total answer at all.

As much as anything I think it is really about demand. 

The RBNZ would say it is going to arrest demand through these LVR measures. 

But what demand are we talking about here?

The problem is not really demand for finance. The problem is the out and out demand for houses, and I would argue principally for houses as an investment.

The first-time buyer will be affected by this new policy. But investors will not be affected at all.

Anybody who can make more than a 20% deposit - and that's most investors - will not be impacted by this. Likewise, overseas buyers with plenty of cash - and we still don't know how many of such people there are really - are likewise not affected.

The interesting point here that has certainly been raised by Westpac economists and possibly others, is that we could see development of a two-tier mortgage pricing market.

Potentially the low equity people might have to pay more, but those with plenty of equity could find the banks bidding for their business.

The thing is the banks won't want to see their lending growth halted by this measure. So, the high equity buyers might become the "low hanging fruit" of the new post-LVR marketplace.

Because the banks might be desperate to keep upping their lending, they will be prepared to give sweet deals to the high equity people. This of course would be likely to INCREASE demand for houses. So prices might even go up more.

For the low equity people it becomes about trying to find money from somewhere else to make up a deposit of sufficient size. And I really worry about what will happen here.

There are already signs of new financial intermediary businesses setting up, some from offshore. 

Last housing bubble we had the finance companies and we know what happened there.

This time it will be different and the victims are not likely to be savers but the people who desperately want to get into a house and so are prepared to source money from a nice smiling man wearing an outsized suit to mask the shark's fin on his back.

I see trouble ahead. Already it is questionable under which authority's auspices such financial intermediaries will fall. Probably none, in truth. The Reserve Bank and the Financial Markets Authority are generally designated to cover financial businesses that raise money from the public.

So, where will the new financial intermediaries sit?

Remember the big problem about the finance companies pre the global financial crisis was that they didn't sit under one regulatory umbrella.

Therefore, as I see it, there are two very likely and unpleasant consequences that may come from this move. Firstly, there will be renewed competition from the banks - but for high equity customers, which will drive the housing market onward.

Second, the low equity customers will end up getting money from, shall we say, dubious sources and at least some will get themselves into a lot of trouble.

The good thing is that the RBNZ can pull the plug on this any time it likes. I think it will be forced to sooner rather than later. I don't expect we will see this policy maintained beyond March next year.

And I think the RBNZ is going to have to push harder on the interest rate accelerator from early next year than most people are currently forecasting.

This is one experiment I think that is going to blow up in people's faces.


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I will play the contrarian and say that while it is experimental, the experiment is not about controling house prices (it won't) but about trying to protect the banks (and by extension the wider economy) from the overheated housing market and its future correction.

Texas has a LVR limit of 80% has done for decades, so its not new. It should actually control house prices as the FTB and what they can pay is the primary driver of the price of the first home.  The first time seller then can leverage as well and that drives up prices, rinse and repeat.  Steve Keen's comments on the Ozzie first time buyer rort is well worth a read IMHO.

Where will second tier finance companies get their funding from? Investors won't have forgetten the plethora of finance companies that failed a few years ago, even if they offer "too good to be true" interest rates.

Having been a past user of (second-tier) solicitors loans for both first and second mortgages I can tell you these second-tier lenders will only lend out money on behalf of clients that have the cash. They dont create credit and they are careful. I am picking that while these new moves will create a burgeoning market for the second-tier lenders to move into, if they have any memory of past history they will tread very carefully. In fact if they were to jump into this over-inflated market boots and all I would be most surprised. If I had any spare cash lying around I would not be letting it out as a second mortgage in this current market. That would be utter madness.

Some consequences:

  • the rise of re-description - as the First-Home-Buyer can jink sideways and morph into a Rent-to-Buyer (Ollie Newland's last-century book showed a few ways for this to be done - Ollie - ears on?)
  • The rise of intermediaries, as DH notes.  But as well as the obvious financial ones, what's to stop a property investment company selling a FHB some shares (the 'deposit'), and financing the rest conventionally as a business loan? 
  • Unconventional groups - let's flesh out DH's hint - gangs, the drug lords, extended family etc - gathering round and 'helping out' the embattled FHB for a unconventional consideration:  selling your first-born or prettiest, committing to a delivery round or chemistry lessons - the possibilities are legion, the paperwork minimal.

Yes, indeed, Godzone will once again be the Social Lab-rat for the World!

I'd hardly call Texas's 80% LVR limit a "social Lab-rat" experiment...or a child slavery, drug lordor hooker haven....any more than other states anyway.
But dont let data get in the way of your liberatarian fantasy land

Libertarian fantasy????.....Pardon.

"RBNZ would have been better to go with an interest rate rise now and to hell with the dollar."
The dollar isnt the issue IMHO.
The CPI is 0.9%? that should be screaming some sectors are at best flat if not in deflation to compensate for areas who can take 4%+ at will out of our wallets.
So the hell with jobs as well? the hell with stagnation/Recession lets go for a depression?
Oh boy....
I just "love" how disconnected most financial commentators seem from Main street at times. Pity its not possible to take a time machine and dump some ppl in 1930 for a few months.

Yes, it would be good to see the P dealers and cooks and barons put back into the community.

"The problem is not really demand for finance. The problem is the out and out demand for houses, and I would argue principally for houses as an investment.
The first time buyer will be affected by this new policy. But investors will not be affected at all.
Anybody who can make more than a 20% deposit - and that's most investors - will not be impacted by this. Likewise, overseas buyers with plenty of cash - and we still don't know how many of such people there are really - are likewise not affected."
Please, is there any evidence for this (that demand is being driven by investors)? Kiwibank CEO was on Radio NZ National this morning, and said repeatedly that the rise in prices of houses in Auckland (and Chch) is due to lack of supply.
If the Kiwibank CEO is correct, and prices continue to rise, then builders and developers, etc., will be motivated to create supply and everyone will live happily ever after.
I'm not sure why investors would be willing to spend $600K or more for a house in Auckland to rent out for $500 per week. It's a measly yield.

Kiwibank CEO was on Radio NZ National this morning, saying repeatedly that the rise in prices of houses in Auckland (and Chch) is due to lack of supply.
Well, what else would you expect him to say? That's their bread-and-butter. Their gravy-train.
Be honest .. did you believe him? .. how many counter-balancing spruikers have you listened to, allowing you to get a balanced viewpoint, and so make up your own mind 

Lack of supply could be taken in a different way, if there are dozens of investors competing to buy properties in Auckland for potential future capital gain is that not lack of supply?  I tend to think we're seeing a combination of this plus first home buyers with a bit of confidence together driving the market.  

A couple of weeks ago was trawling around the various census trying to find out the number of unoccupied dwellings there were .. in the AU census could get a fair bit of data .. if you follow Macrobusiness and Leith van Onselen the same housing price pressures are occurring in AU yet nearly 10% of all dwellings in Australia are un-occupied .. and in spite of the total housing stock increasing at each census, the number of un-occupied dwellings keeps increasing .. but I can't get the same data for new zealand

2011 Census
Total Dwellings    9,120,000
Occupied Dwellings 8,180,000
Unoccupied           934,500

2006 Census
Total Dwellings    8,426,600
Occupied Dwellings 7,596,200
Unoccupied           830,400

2001 Census
Total Dwellings    7,790,100
Occupied Dwellings 7,072,200
Unoccupied           717,900

To get the unoccupied dwellings, as far as I know, you have to go to the results for each individual census, for example

Thanks dh, that's 110,000 or 6.6% or nearly 7% are un-occupied

The problem is not really demand for finance. The problem is the out and out demand for houses..
Yes, he has been misleading there.
If you can't get finance then you aren't a buyer - full stop.  It is pretty obvious that if finance creates the buyer and the buyer *is* the demand then removal of the finance is removal of the buyer and therefore demand must lessen.

Because they borrowed the money directly in Asia from the original inflation drug pushers at 3% per annum. At that rate, getting 4% revenue gross still seems to make sense and cover expenses while waiting to collect tax-free capital gain.

I see plenty of investors buying property after property at 90-95% LVR.  There are investor groups that highly promote this type of purchase.  The speed limits should indeed slow this type of behaviour down?  
High LVR customers require the lender to carry additional capital at extra cost to the bank.   Additionally the customer themselves must either pay an interest rate premium or upfront low equity premium.  Low hanging fruit I do not think so!  Let's see how this plays out.  Customers with good equity will actually be more attractive to banks than ever and this should result in a long overdue concession for these lower risk borrowers.

An experiment that could blow up in our faces - are you sure its about the borrowers?
Was it not the intention to make low equity loans harder to dispense or obtain? The Ozzie banks have 85% of NZ home loan market. We don't agree with your shadow lenders running the market, unless you mean non-bank lenders, funded/warehoused by banks, lending on (to our mind its is all about the banks). Last weekend on Sydney TV there were St George Bank (Westpac) adds encouraging people to buy their "castle" with a 5% deposit loan......
Could we suggest the way banks support their bestest clients is to provide them the maximum loan sums that they can. And as such investors will also be subject to finding the 20% somehow too.
The real interest will be in how relaxed the banks continue to be in accepting any old upward residential property valuation in which to lend against....
And anyway as the NZ Govt. (and bank depositors) are both the provider of the last gtee to the banks creditors, shouldn't they/it have a say in the quality of the loan book?

Some of this might sound familiar - and - the academic definition of a bubble
Foreign investment in residential property
Information and statistics regarding foreign ownership of Australian property is currently unavailable due to censorship, blanking and redacting by the Federal Government
In December 2008, the federal government introduced legislation relaxing rules for foreign buyers of Australian property. According to FIRB (Foreign Investment Review Board) data released in August 2009, foreign investment in Australian real estate had increased by more than 30% year to date. One agent said that "overseas investors buy them to land bank, not to rent them out. The houses just sit vacant because they are after capital growth."
In April 2010, the government announced amendments to policies to "ensure that foreign non-residents can only invest in Australian real estate if that investment adds to the housing stock, and that investments by temporary residents in established properties are only for their use whilst they live in Australia."
Under the rules, temporary residents and foreign students will be:

  • Screened by the FIRB to determine if they will be allowed to buy a property.
  • Forced to sell property when they leave Australia.
  • Punished if they do not sell by a government-ordered sale plus confiscation of any capital gain.
  • Required to build on vacant land within two years of purchase to stop "land banking".
  • Failure to do this would also lead to a government-ordered sale.

The Head of Financial Stability at the RBA said that "If rental yields are very low, investors are buying properties without thinking about the rental yield" and that "Buying an asset just because you are expecting the price to rise in the future, that is the academic definition of a bubble

And the exact  time that bubbles of all asset classes explode ... and investors are left muttering , " holy feck and hell , wot just happened ! " ....
...... is when you least expect it !
... although the GOLD bubble popped on queue when Charles Drace predicted $US 3000 / oz or beyond .... Chuckles is a litmus test for doing the opposite , as per his 1999 prediction that Kiwi housing was in a permanent bear market !!!!
Big Bad Bearish Bernard may get his 30 % house price collapse , yet ... just not back in 2007 ( 2008 ? ) as he predicted ... 40 % would be nice for first home buyers ...

all totally wrong it "PC" sorry
the councils say  what if and who would be resopnsible and thats got to be checked and oked and signed off and if the sky fall then what. We cant possibly, blah blah
so the final price is maybe i will just buy an existing home.

A measure like this only makes real sense when it's present indiscriminately and at all times, especially early in the cycle. The simpler the hard-and-fast rule, the more effective.
Sometimes fundamentalism just makes sense, especially when dealing with the herd mentality, preempting an inflation bull run from taking over the economy. Texans, they know a lot about them herds. Just like Kiwis should, too.

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