RBNZ seen potentially introducing another macro-prudential tool to try and rein in housing market building a new head of steam

By Gareth Vaughan

With the Auckland housing market showing signs of building up a new head of steam, Reserve Bank Governor Graeme Wheeler may dip into his macro-prudential toolbox in 2015 and bring out another tool to help his restrictions on banks' low equity mortgage lending cool the housing market.

This is the view of John Bolton, principal of Auckland-based mortgage broker Squirrel Mortgages.

Bolton told interest.co.nz in a Double Shot interview the Auckland housing market has picked up, and picked up reasonably significantly, since October.

"I think we're going to have a strong summer. You're already starting to see that coming out in some of the statistics in terms of record house prices etc. There is a lack of property on the market, that's going to continue for a while yet," said Bolton.

"You've got a degree of confidence there in terms of the buyers, you've got investors that have got fairly significant capital gains in their portfolio. It's a bit of a drug really and maybe just another property, maybe just another two, so you're going to see all of that in the market."

"You're going to see first home buyers that are probably a little bit fearful of missing out and the market getting too far ahead of them. We're certainly seeing more activity in that first home buyer market now," Bolton said.

"The real risk is more money coming in from offshore. You get all that back in the market and I think we'll see a repeat of 2013. A real kicker with a lack of listings, a lack of supply, lots of demand, and probably a bit more price appreciation."

'There's only so much debt you can borrow before it becomes a problem'

Bolton suggests debt servicing is increasingly becoming an issue for borrowers.

"There's only so much debt you can borrow before it becomes a problem. And the unfortunate situation we're in is the Reserve Bank's kind of stuck with its ability to put interest rates up, which is why I think you'll see more macro-prudential tools coming in next year," said Bolton.

In a consultation paper issued in March last year the Reserve Bank suggested it could implement more than one of its so-called macro-prudential tools simultaneously.

The Reserve Bank introduced a "speed limit" on banks' high loan-to-value ratio residential mortgage lending from October 1 last year, meaning banks must restrict lending to borrowers lacking a deposit or equity of at least 20% to no more than 10% of their new lending flows. Earlier this month the Reserve Bank indicated the LVR restrictions will remain in place for some time yet due to the risk of resurgent house price inflation.

Here's what the Reserve Bank said in its consultation paper last year; "In some cases, the optimum response might involve using more than one (macro-prudential) instrument. For example, during a credit boom it might be appropriate to not only constrain the build-up of leverage in the banking system with the countercyclical capital buffer, but also to target high risk borrowing more directly (eg through the use of LVR restrictions)."

Aside from LVR restrictions, the Reserve Bank has three other macro-prudential tools in its toolbox. They are; the countercyclical capital buffer, effectively banks holding more capital during credit booms; Adjustments to the minimum core funding ratio, altering the amount of retail funds and longer-term wholesale funding banks have to use. And; Sectoral capital requirements, or increasing bank capital in response to sector-specific risks. See more on all four tools here.

'Close to a sure bet'

The latest Real Estate Institute of New Zealand monthly figures - for October - put Auckland's median price at a new all time high of $640,500. At 2,457 October's sale volume was up 7% from September, albeit down 8% on October 2013. Trade Me Property figures show Auckland residential property listings down 10.5% year-on-year. Meanwhile, the latest Statistics NZ figures showed Auckland residential building consents falling.

Against this backdrop, and with mortgage rates falling and migration inflows at record highs, Westpac chief economist Dominick Stephens recently suggested "a resurgence in the housing market is not just a risk - it is close to a sure bet."

Bolton said after a cautious flavour to the Auckland market for much of 2014 with the impact of the LVR restrictions kicking in from February-March, the prospect of higher mortgage rates, and September's election looming, activity has picked up since October.

"And it has picked up reasonably significantly. My concern at the moment is that we get a second head of steam on in this market. If you think about the drivers we've had the new (council) valuations come through, which has kind of banked those gains that people thought they were making over the last two or three years. It has been really interesting to see the psychology of people having those increased values now showing up on their rates statement. That's a part of it."

"Another part of it is we've clearly come out of it with a clean election result. (That's) probably good for the economy generally, but frustrating for people who want to see the property market stay in some sort of control," said Bolton.

'Kiss goodbye to any notion of the LVR restrictions disappearing'

On top of this fixed-term mortgage rates are falling and the there has been a significant easing in the interest rate outlook. After the Reserve Bank increased the Official Cash Rate (OCR) four times by a combined 100 basis points to 3.50% between March and July, most economists now don't expect a further increase until late 2015 at the earliest. Earlier in the year economists were forecasting another 100 basis points of OCR hikes next year, lifting the OCR to 4.5%, the level the Reserve Bank views as neutral.

"It would be fair to say now that it looks like interest rates will stay around this level for at least another 12 to 18 months," said Bolton. "And that change in the interest rate forecast, I think, is certainly giving people a lot more confidence to potentially get out there and buy a property."

"With the softer interest rate forecast I think you can pretty much kiss any notion of that (LVR restriction) disappearing goodbye. It's working well in a fairly benign interest rate environment," said Bolton.

The Reserve Bank also has residential property investors in its sights as it moves to make banks hold more capital against loans to owners of multiple rental properties. The Reserve Bank is proposing a separate asset class of residential property investment and trying to get consistent treatment across the banks. This could make loans more expensive for property investors, and potentially harder to obtain.

'A servicing based calculation makes sense'

Reserve Bank Deputy Governor Grant Spencer says categorising a borrower as a residential investor could be based on the proportion of their total income that's sourced from their investment portfolio, rather than just the number of houses they own.

"As far as property investors are concerned I think the number of properties thing clearly wouldn't work, there's too many ways around it and we'd just create an industry that spends its time trying to get around the rules. Borrowers of convenience would be a particular example where properties are basically purchased in family members names to get around the numbers restriction," said Bolton.

"I think a servicing based calculation makes sense and would work particularly well. If there's an issue in the New Zealand mortgage market it tends to be around servicing. You'd be surprised how low the non-property related income is for a number of people that buy investment properties, and there is a degree of rent reliance there."

"So if the Reserve Bank and the banks generally increasingly focus on servicing, then that will certainly help slow that part of the market down," Bolton added.

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