You may not give much thought to the Reserve Bank of New Zealand but it affects the lives of all of us -- especially when we buy or sell a house. How much you pay in interest and the deposit needed to buy your home is strongly influenced by the Reserve Bank.
It's not a bank members of the public do business with. The Reserve Bank works for the Government and its role is to keep the economy stable for the benefit of all of us.
It ensures that when you go to your own bank, building society, credit union or insurance company to access your savings, ask for a loan, or make an insurance claim, the organisation is likely to still be there and able to pay out. It has a big impact on the property market as well.
The Reserve Bank can't control the property market. But it has tools to influence house prices as well as home buyers and sellers. Currently its most important tools in that respect are loan to value ratios -- also known as LVRs, and the official cash rate, which it controls.
The LVR is the percentage homeowners borrow against the home. So a 60 per cent LVR means you need a 40 per cent deposit.
Usually the Reserve Bank doesn't tinker with LVRs, but it put "temporary" limits in place in October 2013, which have been revised up twice. They mean the majority of loans made by banks are subject to limits. Non-bank lenders such as Resimac can lend whatever percentage they want to buyers. The Reserve Bank's LVR rules can be found here.
The other main lever the Reserve Bank has to influence the property market is interest rate controls. It sets the Official Cash Rate (OCR), which impacts the interest rate homeowners pay on their mortgages. When the OCR rises, the banks pay more interest to savers and consequently charge more for loans.
The purpose of moving the OCR up and down is to control inflation, not property prices.
The difficulty for the Reserve Bank is that the lower interest rates go the easier it is to service a mortgage -- which can ratchet house prices up. On the other hand, if it raises interest rates too far it risks pushing home owners to sell and causing house prices to fall.
Another measure the Reserve Bank has indicated it would like permission from the Government to implement is debt-to-income speed limits, says Nick Tuffley, chief economist at the ASB Bank. That would set a limit on the percentage of your monthly income before taxes spent on mortgage.
Like LVR restrictions, debt-to-income ratio restrictions would have a direct impact on the housing market, says Tuffley.
In a recent paper, Grant Spencer, the deputy governor and head of financial stability at the Reserve Bank said the restrictions would make defaults less likely in a downturn, and, combined with LVR restrictions, would constrain house price pressures further.
Another possible weapon in the arsenal is "capital overlay" for banks. That's the amount of capital banks have to hold. The more they have to stash in their coffers the less there is to lend out, increasing the cost to borrowers.
"[Capital requirements] are modest in the grand scheme of things in terms of directly influencing interest rates and the housing market," says Tuffley. It would, however, make banks more resilient -- indirectly beneficial to home owners.
Banks falling over in the event of a housing market crash or other drastic economic event is not something homeowners want. Their mortgage could be recalled if that happened although this would probably be only one of many problems faced by Kiwis in such a scenario.
The Reserve Bank can also do what Tuffley calls "jawboning", or making statements aimed at cooling the market. "We see the Reserve Bank saying things like 'Hey, we think buying property at these sorts of high prices is risky'."
Needless to say the suits at the Reserve Bank are concerned that the bust that comes after a boom cycle is a risk to New Zealand's financial stability.
The Reserve Bank's concern is that a severe housing correction would pose risks for financial system stability and the broader economy. "The banks are heavily exposed to housing with mortgages making up around 55 per cent of total assets. Household debt, at 163 per cent of household income, is at a record level." In Auckland, the median house price to income ratio has grown to more than 9.7 times, making Auckland the fourth most expensive city in the world relative to income out of 367 cities worldwide.
"Our current interest in the property market is solely as it relates to the risks that the property market and associated lending by banks pose to the financial system," a Reserve Bank spokesman said. "Rules about loan to valuation ratios that we put in place in late 2013, changes to those rules in November last year, and further changes (from) September 1 all relate to mortgage lending by banks. While the rules have an impact on borrowers, they actually apply to banks."
He adds: "We also have a role in researching how property prices and household indebtedness affect financial stability, and a role collecting and publishing data about mortgage lending."
It's not just the Reserve Bank that can apply rules on lending. Your bank/lender will have rules that may affect the percentage of a property's value you can borrow and the interest rate. Organisations such as councils can have an impact on the housing market through urban planning and other measures.
If a trading bank decides to lend money, then it must at least comply with Reserve Bank rules but it is entitled to impose more restrictive terms if it wants to. The Reserve Bank says it fields calls from bank customers, but tells them that banks are expected to use their own judgment and entitled to impose conditions over and above its rules.