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Opinion
Home / Business

Bernard Hickey: NZ making same housing mistakes

Bernard Hickey
Opinion by
Bernard Hickey
Columnist·Herald on Sunday·
14 Jun, 2014 05:30 PM4 mins to read
Bernard is an economics columnist for the NZ Herald

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2014 high-resolution satellite image of the Auckland suburb of Botany / Flat Bush. Image / LINZ Data Service.

2014 high-resolution satellite image of the Auckland suburb of Botany / Flat Bush. Image / LINZ Data Service.

Remember mid-2003? It was just before the Rugby World Cup in Australia.

New Zealand was in the middle of a migration boom with net migration hitting 33,300. The median house price in Auckland had risen 15 per cent to $298,000 and the average floating mortgage rate was 7 per cent, but was about to rise. The average two-year fixed mortgage rate was 6.13 per cent. Most borrowers were floating or on short-term fixed rates.

Something big and unthinkable was about to happen, and it wasn't just watching Carlos Spencer throw that pass to Stirling Mortlock then losing that rugby match to Australia.

The migration boom, massive foreign borrowing by banks and rising floating interest rates were about to dramatically shift the behaviour of homeowners and force the Reserve Bank to push much harder on its interest rate brake than it wanted.

Borrowers started fixing on longer-term mortgages because banks were offering cheaper fixed deals. Those banks could easily borrow cheaply on international markets because they were stable and credit was plentiful.

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By mid-2007 the Auckland median house price had jumped 49 per cent to $448,000 and the Reserve Bank was in a real muddle. Its 2004-05 rate hikes had limited effect.

By the time it became clear that the massive fixing of rates through that period had insulated borrowers from the rate hikes, it was too late.

The bank was forced into four further quick rate hikes in succession from March to July 2007. This, combined with a drought, was more than enough to drive the economy into recession.

Now, we are in eerily familiar territory. New Zealand is in the middle of another migration boom. The median house price in Auckland is more than $610,000, up 14.6 per cent from a year ago. Global financial markets are entering another extended period of calm with plenty of easy, cheap credit to be found.

New Zealand's banks have started competing harder by offering cut-price fixed-rate mortgages. They can do this because their profit margins are healthy and they are able to find cheap funding overseas.

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The difference in bank profit margins between floating and fixed is startling. Westpac CEO Peter Clare told me last month the profit margins on floating are around 150 basis points and the profit margin on fixed-rate mortgages can be as low as 50 basis points.

The result is that two- and three-year fixed-rate mortgage rates have now been cut to significantly cheaper rates of around 5.8 per cent, well below floating rate mortgages, which have risen to 6.5 per cent.

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The market is now ripe for a repeat of the rush into longer-term fixed mortgages seen between 2003 and 2007. At April 30, $131.7 billion worth of mortgages were floating or fixed for less than a year. There was just $61.1b on terms longer than a year.

The opportunity is enormous. If just half of those floating mortgages were to switch to two-year fixed rates, those borrowers would save more than $500 million in interest costs each year and, by extension, reduce the bank profits by the same amount.

The Reserve Bank was remarkably sanguine at its announcement this week about the risk of another rush to fix and the resulting dilution of the power of monetary policy to slow the economy. Governor Graeme Wheeler's predecessor, Alan Bollard, didn't give the fixed vs floating issue a second thought in mid-2003.

Within four years he was referring to the lack of traction when welcoming a Parliamentary inquiry into the then-persistently high exchange rate, which was at least partly caused by foreign borrowing to fund cheap fixed mortgages.

The banks and their regulator would argue this time it's different. Banks are now forced to avoid relying too heavily on cheap short-term foreign funds. They are also seeing heavy flows of local term deposits to fund their local mortgage growth.

Still, few thought in 2003 that house prices would double within a decade or that the All Blacks would take until 2011 to win their next World Cup.

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