RBNZ may force lenders to limit borrowings from August - economists

The Reserve Bank, concerned about spiralling house prices causing financial instability, could force lenders to limit borrowings as early as next month, economists say.

Submissions on the Reserve Bank's proposal to restrict bank lending on low-equity loans closed on July 3.

A summary of submissions, along with the central bank's response, is likely to be published ahead of an updated Banking Supervision Handbook slated for release this month.

That would pave the way for changes to be made as early as August, economists say.

The central bank's head of financial stability, deputy governor Grant Spencer, last month said restricting low equity home loans offered the greatest potential to curb demand in an overheated housing market that was a "real threat" to future financial stability.

The bank is reluctant to use higher interest rates to curb the bubbling property market until next year as it is not spilling over into general inflation and a hike risks increasing the kiwi dollar, which the bank already considers over-valued.

"When the head of financial stability says they now see the housing market as a serious threat to financial stability, that doesn't sound like wait-and-see kind of language," Westpac Banking Corp senior markets economist Michael Gordon says. "They seem pretty determined to use it, and soon."

Pent-up demand

House price inflation continues to increase, driven by supply shortages in Auckland and Christchurch, pent-up demand for housing and the lowest mortgage rates since the mid-1960s, the Reserve Bank said at its monetary policy review last month. House price inflation is project to rise modestly over the coming half year before tracking lower again, it said.

Still, the Reserve Bank is concerned the current escalation of house prices is increasing the probability and potential harm of a significant downwards correction, it said. Stronger house price inflation could also spill over into general inflation, it said.

Of five banks surveyed by BusinessDesk, all said the Reserve Bank could use the new loan-to-value ratio tools as early as August.

"They are in a bind where from a financial stability point of view higher interest rates are desirable to get on top of that risk that they see but the inflation outlook just says no, that is not the time," ASB chief economist Nick Tuffley says.

"It does suggest there is a strong likelihood that they will use the LVR tool at some stage in the second half of the year. If all the ducks lined up and the Reserve Bank's concerns were high, August seems about the absolute earliest timing."

The latest submissions may have thrown up some mechanical or technical issues that need to be worked through before banks can implement the changes, economists say.

The central bank has said it would expect lenders to implement changes within two weeks of an announcement.

The Reserve Bank is unlikely to wait until its next financial stability review in November to announce changes, the economists predict.

"It's a long gap between those reports and if they have already made up their minds that housing is a threat to the banking system then why give people a few more months to rack up some high LVR loans before they act," Mr Gordon says.

The big unknown is how hard the Reserve Bank is likely to apply the speed limit, he says. Some 30 percent of new loans are estimated to be 80 percent debt funded currently with about 10 percent of those comprising 90 percent debt.

"It's difficult to gauge what would be a tough restriction versus a conservative one."

Little is also known about the impact on the housing market. "It depends how hard you apply the handbrake and we don't even know what qualifies as hard."

Most economists expect the Reserve Bank to start raising interest rates from their record low 2.5 percent by March, according to Reuters polls. The bank has forecast rates to start rising from June.

"That is quite a period for low interest rates and ongoing population pressures to continue to put upward pressure on house prices," Mr Tuffley says. "The longer they wait, the bigger the risk of the house price overshoot that they are worried about happening."

The one factor that could restrain the central bank from acting would be if the housing market looked like it was starting to cool of its own accord, Mr Gordon says.

(BusinessDesk)