'Level and trajectory' of house prices creating risks for recent buyers - Reserve Bank Financial Stability Report

Releasing its half-yearly Financial Stability Report, The Reserve Bank said the level and trajectory of house prices is unsustainable and creating risks for recent buyers.
Releasing its half-yearly Financial Stability Report, The Reserve Bank said the level and trajectory of house prices is unsustainable and creating risks for recent buyers. Photo credit: Supplied/Getty Images.

The Reserve Bank is concerned the level of house price growth is not only unsustainble, but also puts recent buyers at risk.

Releasing its half-yearly Financial Stability Report on Wednesday, which considers the "soundness and efficiency of the New Zealand financial system", the Reserve Bank said those who had to borrow more to buy a house are "increasingly vulnerable" to future shocks.

This included recent mortgage borrowers with low deposits (high loan-to-value ratio), who are more at risk if current prices drop. Rising interest rates could also mean some households were over-leveraged.

"Also, while current debt servicing costs are quite low, higher mortgage rates could see debt servicing costs rise substantially for some borrowers as a share of their income, creating financial stress and reducing aggregate demand," the Reserve Bank said in the report.

Loan-to-value (LVR) restrictions were the main tool used by the Reserve Bank to reduce housing market risks. From this week (November 1), the amount of lending banks can make to owner-occupiers with small deposits is chopped in half - just 10 percent of a bank's total new lending can go to owner-occupiers with less than 20 percent deposit.

The Reserve Bank said it would begin consulting on forms of debt servicing restrictions, which it said could also be used to "lean against those risks" of high debt relative to income. 

Bank capital requirements (the financial buffer held by banks), would "progressively increase" from July 1, 2022.

Within the report, a graph showing the portion of high-risk lending among first-home buyers, owner-occupiers and investors shows first-home buyers were most at risk.

While investor lending with a debt-to-income ratio above 6 (a loan-to-value ratio above 70 percent) had dropped back, risky lending among first-home buyers continued to increase.

'Level and trajectory' of house prices creating risks for recent buyers - Reserve Bank Financial Stability Report
Photo credit: Supplied/Reserve Bank Financial Stability Report, November 2021.

Infometrics principal economist Brad Olsen told Newshub risks among first-home buyers were the "most striking".

"The wind has been knocked out of investors' sails quite quickly but the substantial and continued increase in first-home buyer risky lending activity is going to be the major concern," Olsen said.

Changes such as loan-to-value ratio (LVR) restrictions, tougher bank lending requirements and rising interest rates are going to make it more difficult to get a house.

"But what the Reserve Bank doesn't want to see is home ownership for young people and other buyers coming about while at the same time, putting that group in a potentially compromised position," Olsen added.

On the up-side, total household net wealth, grew by over 27 percent in the 18 months to June 2021, for which property accounted for around half, the Reserve Bank said in its report. Most homeowners have enough net wealth to absorb a "sizeable fall in asset prices".

According to Reserve Bank estimates, if house prices were to fall by 30 percent, less than 10 percent of mortgage borrowers would be in negative equity.

Even if there were an unexpected downturn, it showed mortgage borrowers are "pretty resilient", CoreLogic head of research Nick Goodall said. 

"Longer term, we do expect the factors that were causing the growth rate to slow down [rising interest rates, tightened LVRs, tougher credit conditions and affordability], to take over and we'll see that slowing trend return."

A transition towards living with COVID-19 in the community could lead to "a change in consumers' preferences and behaviour" and could affect the viability of some businesses, the Reserve Bank said in it's report.

The idea that bounce-back in the economy may or may not be strong going forward, and how New Zealand and the world will react going forward is something to watch, Infometrics principal economist Brad Olsen said.

An October ANZ Roy Morgan Consumer Confidence survey showed confidence had dropped back to the second-lowest level since records began in 2004, indicating consumers are "still quite cautious". 

"If that becomes a sustained lower level of confidence, we could well see the bounceback much more muted than first expected as households adjust their spending habits to ensure they might hold more of a buffer if uncertainty persists," Olsen added.

ASB and BNZ told Newshub they currently use debt-to-income ratios to ensure borrowers are in a secure position amid rising interest rates.

"In certain lending situations, particularly in the current low interest environment, we think it is prudent to consider Debt-to-Income (DTI) multiples, and we actively use these today," an ASB spokesperson said.

This isn't the first time the Reserve Bank has referred to house price growth as "unsustainable".  With sustainable house prices now part of its remit, in it's May Financial Stability Report, the  Reserve Bank said house prices were "less sustainable than before".  Borrowers taking advantage of low-interest rates by taking on huge debts are "more vulnerable to a rise in mortgage rates," it said.

Hiking the cash rate by 25 basis points in October, the first rise in seven years, in it's Monetary Policy Review, the central bank warned continued price growth could lead to sharper future falls. But it noted new housing construction, slower population growth, investor tax changes, tighter banking lending rules and reduced monetary stimulus (higher interest rates), would likely cause growth to slow over the medium term.