The Reserve Bank will target Auckland property investors with new lending restrictions as it looks to take the heat out of the property market in the country's biggest city, which it sees as a key risk to the nation's financial system.
The bank intends in October to introduce new loan-to-value ratio (LVR) limits on lending to property investors in the Auckland Council area that would require those borrowers to have at least a 30 per cent deposit, it said in its six-monthly financial stability report.
The Reserve Bank said the potential for a sharp correction in the Auckland market has increased since its November report, with investors the key source of new demand for the city, accounting for about a third of new lending in the six months ended March 31.
"We are proposing these adjustments to the LVR policy to more directly target investor activity in the Auckland region, where house prices relative to incomes and rent are more elevated than elsewhere in New Zealand," governor Graeme Wheeler said in a statement. "The objective of this policy is to promote financial stability by reducing the rate of increase in Auckland house prices, and to improve the resilience of the banking system to a potential downturn in the Auckland housing market"
The Reserve Bank imposed its original limits on mortgage lending with deposits of less than 20 per cent in October 2013, which was seen as initially taking the heat out of the market. Since then, house prices have picked up as strong inbound net migration and a lack of supply in Auckland have been exacerbated by relatively low interest rates.
Early Reserve Bank data suggests investors make greater use of interest-only loans, which might partly reflect their ability to offset mortgage expenses against income tax, and those loans are likely to be more highly geared than owner-occupier mortgages.
"The risks associated with investor lending are likely to be greatest in the Auckland region," the bank said in its report. "Rapid house price appreciation in Auckland has compressed rental yields, and this is likely increasing income gearing among Auckland investors."
Rising imbalances in the housing market increase the risk of a sharp drop in house prices which would put borrowers under stress and could ultimately flow into the banks through increased losses on housing loans, the report said.
To facilitate the new LVR lending restrictions, the Reserve Bank will also introduce a new asset class covering property investors, defined as any mortgage secured on a home that is not an owner-occupier. The bank has been in talks with private lenders to agree on a definition, which would then require lenders to hold more capital against those loans.
To recognise more subdued housing markets outside Auckland, the Reserve Bank will ease the restrictions on high-LVR lending for all residential lending to 15 per cent from the existing 10 per cent. The 10 per cent speed limit will stay in place for Auckland owner-occupiers.
It's likely that the aim of announcing this so far ahead of the implementation date was to create an immediate chilling effect on the Auckland property market. Whether that proves to be the case over the next four and a half months is unclear.
The new restrictions on Auckland lending won't apply to mortgages to build new houses or apartments.
Westpac Bank economist Dominick Stephens said it was worth noting "that this may not be the final form of the lending restrictions. The RBNZ will release another consultation paper in late May, which suggests that the technical details of implementing region-specific rules may not have been fully worked out yet."
"We have been expecting a tightening of LVR restrictions for some time, although we were surprised that the RBNZ chose to make an announcement today," said Stephens.
"It's likely that the aim of announcing this so far ahead of the implementation date was to create an immediate chilling effect on the Auckland property market. Whether that proves to be the case over the next four and a half months is unclear. When the first LVR limits were announced in 2013, house prices surged as buyers, particularly first - time buyers, rushed for the door before it closed on them. However, investors, who are more focused on capital gains, won't face the same incentive."
The Reserve Bank's estimates that the new restrictions could cut Auckland house price growth by 2-4 per cent - which would work out to around 1-2 per cent on the national average.
"That's not a huge impact, and we'd lean towards the lower end of that range, although there's not a lot of data available to make such a judgement," said Stephens. " RBNZ data shows that only around 2 per cent of property investor loans are originated at LVRs above 80 per cent, so a 70 per cent limit on property investor loans is actually not that tight. Meanwhile, the RBNZ has actually loosened LVR restrictions in the rest of the country, although that may not have much impact because the share of high-LVR lending in those regions is already running well below the existing 10 per cent limit."
"If anything, today's announcement was on the mild side of what we were braced for. Consequently, we see no reason to change our house price forecasts - we continue to anticipate 10 per cent nationwide house price inflation this year, and 4.5 per cent next year," said Stephens.
Nick Tuffley, ASB chief economist, said he expected the Reserve Bank to cut the Official Cash Rate later this year, by 25 basis points in September and October.
"But the risks are tilted to an earlier start. Weak economic data or a more pragmatic approach to its inflation target have been existing reasons," said Tuffley. "But the proposed clamp-down on Auckland residential investment property will help the RBNZ contain the financial stability risks it sees around property. It may not be immediately clear that the proposed implementation date of October 1 is feasible, and the RBNZ may prefer to wait until it has confidence in the timeline before cutting the OCR."
The Reserve Bank will issue a consultation paper later this month seeking feedback on the new proposals.
The Reserve Bank considered New Zealand's financial system was still sound in the latest report, with lenders' capital and liquidity buffers increasing in recent years and bank profitability improving with fewer impaired assets ad growth in net interest income.
Lenders have told the Reserve Bank they plan to use new capital instruments allowed under Basel III, and the RBNZ plans to undertake a review of current capital requirements to see how the global and domestic context has changed in recent years.
Read the full report here