Nation of debt: Housing debt jumps - can we afford it?

CoreLogic chief economist Kelvin Davidson says house prices themselves are falling so people don't need to borrow as much. Photo / Peter Meecham

Housing debt has risen at a slower pace in the last year but the cost of servicing that debt has gone up sharply.

Reserve Bank data shows housing debt rose 6.9 per cent to $339.41 billion in the year to May 31. That was much slower than the 11.5 per cent growth in the year to May 2021.

But at the same time, one-year fixed-term rates have jumped from a record low of 2.25 per cent to over 5 per cent.

Kelvin Davidson, senior economist at CoreLogic, said from a financial stability point of view New Zealand couldn't have kept going the way it had been.

"Housing was very stretched affordability wise. There is no free lunch in economics, at some point interest rates were going to go up."

He said the amount of debt was still rising and its growth could slow a little more yet.

"House prices themselves are falling so people don't need to borrow as much. Whether it is the tighter credit environment dragging down house prices or house prices naturally limiting the credit growth - it is a little bit chicken and egg. It is probably a bit of both."

Last year saw banking caps for low-deposit lending to investors and then owner-occupiers tighten followed by changes to the Credit Contracts and Consumer Finance Act.

In response banks have changed up their lending policies and on top of that mortgage rates are up.

"You simply can't get as much credit now for a given level of income because it costs you more to service the debt."

But can we afford it?

Davidson said he was conscious of the view that everything was fine until it was not.

"It is not all doom and gloom. Unemployment is still low - that's a huge support for people's ability to service their debts."

Unemployment was the key and while it was low now that wouldn't always be the case.

"There are still some risks that unemployment rises. We know business confidence is low, there is uncertainty globally. I can't imagine unemployment is going to be this low forever."

Asked if New Zealand's housing debt was affordable ANZ senior economist Miles Workman said the quick answer was that it was okay.

"But that is really based on the premise that household incomes hold up and continue to grow."

Workman said the best way to evaluate it was to look at the percentage of household disposable incomes needed to service the mortgage debt.

That percentage hit a peak of around 14 per cent just before the Global Financial Crisis in 2008 but had fallen to a recent trough of just over 5 per cent in mid-2021.

Based on forecasts that the official cash rate will rise to 4 per cent and assuming similar margins on bank mortgage rates, Workman said ANZ expected that share of income would rise to a peak of around 9.3 per cent.

"It suggests that it is going to be more painful for households to service this debt."

But it would still be well below the 14 per cent peak that existed pre-GFC.

"There are obviously pitfalls to this type of analysis."

It uses median household incomes and debt levels but it was the marginal household that was really going to suffer.

"It's your recent first homebuyer that bought at the peak of the housing market, probably in November last year, borrowed 80 per cent of that value and have got an exceptionally high mortgage and probably wasn't expecting interest rates to be this high."

Workman said in theory higher mortgage rates should still be affordable given banks had been testing borrowers' serviceability at a higher rate than the market rate at the time.

"There are going to be some cases of households that do struggle but the big risk around these calculations is probably less on the interest-rate side of the equation.

"The big vulnerability here is household incomes."

Unemployment is currently at a record low and could fall even further when quarterly data comes out on Wednesday.

But Workman said if New Zealand was to see an employment shock where lots of people lost their jobs then there could be more situations where people are forced to sell their house because they couldn't service the debt.

"Then you really see a sharp correction in house prices and a hard landing in the broader economy as well."

Workman said because the labour market and inflation data lagged monetary policy decisions by 12 to 18 months it made it hard for the Reserve Bank to diagnose where they need to stop hiking the cash rate.

"The risk of a hard landing is heightened. The risk of a recession is extremely heightened."

Job losses were the big risk but interest rate risk was also a worry, Workman said.

If inflation is more persistent than expected the Reserve Bank may have to increase the cash rate more than is forecasted.

"If mortgage rates were to rise by another 300 basis points, an OCR at 7 - that is an extreme scenario - it gets us back to that 14 per cent of disposable income number that prevailed just before the GFC."

Interest rates were slashed in the aftermath of the GFC so servicing rates fell but that didn't stop thousands of people going to a mortgagee sale.

"There is certainly a degree of belt-tightening that has to occur but even if these upside interest rate risks were to materialise ... you still end up in territory where we have been before.

"The scary fact would be such a rapid rate of change."

Going from 5 per cent to 14 per cent of income in a very short space of time would be unprecedented.

Before the GFC it took from 2003 to 2008 to trend up that high.

This time if that worse-case scenario happened it could see a rise from 5 per cent in June 2021 to 14 per cent by June 2024.

"That would likely have some kind of shock factor for households and then see them pull back on spending," Workman said.

"I don't want to stand here and say yes it is affordable and we are all good. We are still talking about a very rapid change even on our base case. That is a lot of disposable income that evaporates into debt servicing.

"But that is how monetary policy is supposed to work and that is supposed to take demand out of other parts of the economy and hopefully see the supply and demand sides of the economy back in balance."

NATION OF DEBT SERIES:

• Monday: How much do we owe?
• Today: Can we afford the rising cost of housing debt?

Coming up - Every day this week we'll take a deeper dive into the debt levels of different sectors including housing, consumer, agriculture, business and Crown borrowing

By the numbers:
• That big ugly number in our graphic ($772b) is New Zealand's total gross debt.
• It combines the latest Reserve Bank figures for private debt with Treasury numbers for Crown debt and Local Government Funding Agency data on council debt.
• The Reserve Bank figures include housing debt, consumer debt, business debt and agricultural debt to June 30. These are updated monthly by the central bank as part of its brief to monitor and maintain financial stability.
• The Crown debt figure is taken from Treasury's Interim Financial Statements to May 31 and is the figure for Core Crown Borrowings.
• This is different to the Net Core Crown Debt figure often used by politicians when they talk about debt-to-GDP ratios.
• We use this (on Treasury's advice) as it is a gross debt figure but excludes debt held by state-owned enterprises which would have been covered off in the Reserve Bank statistics.
• Finally, the debt figure supplied by the Local Government Funding Agency is gross debt for the year to June 30, 2022.
• It captures all core council activities (Watercare, Auckland Transport etc) but excludes some commercial activities (e.g. Christchurch City Council's Orion lines company, Port of Lyttelton, Christchurch Airport) as these would also be included in RBNZ data.