Reserve Bank gets new tool to control house prices - 'a bad year to be a property investor'

Wednesday, 16 June 2021

The Reserve Bank is getting a new weapon to tackle ballooning house prices.

The Reserve Bank will soon be able to impose debt-to-income ratios, which may limit the amount people can borrow to buy a house to about seven times their annual income.

The central bank announced it had reached an agreement with Finance Minister Grant Robertson over adding “debt serviceability restrictions” to the tools it could use.

Robertson said he believed the debt-to-income controls should apply only to investors but the Reserve Bank has signalled it believes a single limit could be set at a level that would largely achieve that.

The bank said its analysis showed tools such as debt-to-income (DTI)limits were likely to be “the most effective additional tool that could be deployed by the Reserve Bank to support financial stability and house price sustainability”.

DTI controls are used overseas to limit how much people can borrow, to a multiple of their income. In Britain, borrowers are often limited to no more than 4½ times their annual earnings.

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The bank already sets limits on the value of home loans relative to people’s deposits (LVRs) and there have been concerns that limiting the amount of debt buyers can take on could further shut some home buyers out of the market.

Robertson had agreed in principle to allow debt serviceability restrictions, “on the condition that any implementation is designed to avoid impact, as much as possible, to first-home buyers”, the bank said.

“Although we do not have a remit to target house prices directly, our financial policy tools can help to ensure prices do not deviate too far from sustainable levels,” Reserve Bank governor Adrian Orr said.

“We believe that a ‘sustainable house price’ is the level that the price would be expected to move towards over several years, reflecting the underlying drivers of supply and demand for housing, including population growth, building costs, land supply, and interest rates,” he added.

Reserve Bank governor Adrian Orr believes debt to income controls could ensure house prices don’t deviate too far from “sustainable levels”.

The Reserve Bank released analysis it provided to Robertson last month that said DTI controls would primarily impact property investors and “higher-income owner occupiers”, who borrowed at higher DTI ratios on average.

“A DTI limit could be calibrated to effectively exempt the large majority of first-home buyers,” it advised.

The bank also advised Robertson that DTI limits could benefit first-home buyers overall by “supporting sustainable house prices and dampening investor demand”.

“Our analysis suggests that, in the current market, a DTI cap of seven would have minimal impacts on first-home buyers while deterring some purchases by investors,” it said, seeming to send a strong hint on roughly where caps could be set.

“A lower DTI cap of six would be expected to have more impact on moderating house prices and dampening investor demand but would also have higher allocative efficiency costs and could prevent a small number of first-home buyers from entering the market,” it said.

The Reserve Bank said that as of March 33 per cent of investor borrowing, but less than 7 per cent of borrowing by first-home buyers, was at a DTI of more than seven.

19 per cent of borrowing by other owner-occupiers was at a DTI above seven.

Economist Shamubeel Eaqub said the change would be “huge”. “If people can’t borrow lots of money, they can’t pay high prices.”

Finance Minister Grant Robertson says it will be important to see if existing measures to control house prices work, before taking the further step.

John Bolton, who founded mortgage broking business Squirrel, said rent-reliant property investors would be the most affected by any potential change. Internationally, property investors are sometimes excluded from such rules but the Reserve Bank has indicated they would probably be captured.

Many of those property investors were facing a reduction in rental income because of the change to interest deductibility rules.

“They might see their rental income drop by 20 per cent to 30 per cent over the next four years and now on top of that you have DTIs,” Bolton said.

“It is far easier for property investors to breach DTIs than owner-occupiers because they are much more leveraged.”

He said the change might pull investors back from new builds. Because new-builds are exempt from the tax changes, it had been expected they would be a popular alternative for investors.

“[DTIs] are a very effective tool. Just like everything else that is happening, there are a lot of people out there making investment decisions and the rules are changing on them. It has not been a great year to be a property investor.”

The Reserve Bank pretty much dismissed an alternative or additional option of imposing new controls on interest-only mortgage lending, saying they were “unlikely to have material impacts on financial stability or house price sustainability”.

They would also be inefficient, and challenging to implement and enforce, it said.

But the Reserve Bank said it would continue to monitor levels of interest-only lending.

National Party shadow treasurer Andrew Bayly said using “blunt tools” to try to kill off demand without addressing housing supply would “lock thousands out of the market unnecessarily”.

“If such lending begins to pose risks in future, we consider that these can be managed via adjustments to LVR restrictions and/or capital risk weights,” it said.

The bank made clear that although it had “formally requested” the right to limit debt-to-income ratios, it would not necessarily immediately impose controls, adding that they might take six months or more to design.

“The initial effects of the recent tightening of LVR settings and the Government’s recently announced housing policy changes will become clearer over the coming months,” it said.

“If we consider that further action is required, we will determine the appropriate response based on the tools available to us at that time.”

Robertson also emphasised DTI controls were not yet a done deal.

“The Reserve Bank has clearly stated that there is no immediate plan to use DTIs and any decision to do so would only happen after a full public consultation,” he said.

“The Government has already put in place a number of measures to cool the housing market and it is important to give these initiatives time, to assess their impact,” he also said.

ANZ said it would follow whatever regulations and expectations were set by the Reserve Bank, but didn’t believe “a macro-prudential tool based on total debt to total gross income is a good measure of affordability”.

“Like many we’re also concerned that escalating property prices are putting home ownership out of reach for many Kiwis and have been vocal about this in the past,” it said.

ANZ said it was in “everybody’s interests” for property prices to be sustainable long term and for New Zealanders to be able to comfortably service their home loans.

But it said it would be very difficult to put a stable benchmark in place.

“More importantly, DTIs tend to disadvantage young people just starting their working lives with low incomes, further discouraging first home owners,” it said.

National Party shadow treasurer Andrew Bayly said debt limits would “not build one new house”.

“Introducing debt-to-income limits won’t do anything to address the supply problem that is fuelling the country’s housing shortage,” he said, describing it as “more tinkering around the edges”.