RBNZ says debt-to-income limit of five times would be cut risk of housing crash

The RBNZ found that limiting lending at a debt-to-income ratio of five times could be appropriate if house prices rise sharply.

The Reserve Bank says setting a limit on home mortgages of more than five times income would make an appropriate addition to the macro-prudential toolkit it could call on to prevent a housing market crash.

The central bank reached that conclusion after a cost-benefit analysis of its options for responding to a housing bubble that could threaten financial stability and has released a consultation paper for feedback. The RBNZ found that limiting lending at a debt-to-income ratio of five times could be appropriate if house prices rise sharply. The speed limit would restrict higher DTI loans to 20 percent of lending, it said.

In the document, the RBNZ said data show about 27 percent of lending is at a debt-to-income ratio of six times or more, and a further 13 percent at a ratio of between five-and-six times, meaning the restriction could "significantly reduce" the amount of lending at a high ratio.

The bank's work estimates of the 78,200 mortgage-funded purchases in a year, 10,400 high DTI transactions would be blocked by a restriction, of which 1,600 would be first-home buyers, 700 other owner-occupiers, and 8,800 investors.

The RBNZ would expect the DTI policy would reduce "high-risk lending quite significantly", reducing the risk of a housing crisis to 4 percent from a baseline of 5 percent and lowering the threat of a financial crisis to 1 percent from 1.5 percent. Even if those crises occurred, the RBNZ said the DTI policy would cut the cost of a housing crisis to 8 percent from a baseline cost of 10 percent, and reduce the cost of a combined housing and financial crisis to 16 percent from 20 percent.

In total, that would reduce the total net cost to 0.4 percent of gross domestic product from a cost of 0.65 percent of GDP without the DTI.

That benefit of 0.25 percent of GDP outweighs the projected costs associated with the policy, which the central bank estimating a 0.1 percent knock to GDP as lower house prices cut consumer spending and construction activity, and a 0.07 percent of GDP cost the bank expects would come from potential buyers being blocked from the housing market.

"The Reserve Bank considers that a DTI limit, or other serviceability restriction would reduce the risk of a severe housing downturn in certain circumstances, and attenuate the impact of any downturn on the wider economy," it said in the paper. "While the policy would stop some potential buyers from purchasing homes, the policy offers a variety of options for affected borrowers (such as searching for a speed limit loan, bringing down planned debt to income, buying a cheaper home, or using the construction exemption)."

Submissions are due by Aug. 18, and if the Reserve Bank does add DTIs to its policy toolkit, it said it would consult with the public again before introducing the measure.

"In the meantime, we will continue to work with banks to improve the data on debt to income we are receiving and continue to assess this risk," it said. "Even if a DTI tool is not actually used, we consider that the DTI information is a useful addition to our systemic risk monitoring and should be useful information to senior management and boards of lending banks."

Separately, Finance Minister Steven Joyce said the use of debt-to-income ratios would be a "significant intervention" and that because the central bank wouldn't plan to introduce them immediately there was "time to consider their possible future use carefully".


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