Revving up the economy as we cool the housing boom
Nobody is going to describe Wednesday’s move by the Australian Prudential Regulation Authority to cool the housing market as too much, too soon. It’s a modest but welcome measure given the rapid rise in house prices and mortgage debt, and the risks down the track to financial stability.
APRA has told the banks to stress-test new loans at an interest rate at least three percentage points above the loan rate, whereas the current buffer is 2.5 percentage points. The idea is to knock out the more over-committed borrowers and ease some of the competitive pressure on housing prices at a time of cheap money. Last week, CoreLogic reported home values had risen 20.3 per cent in the year to September, the fastest annual pace since June 1989. More than 20 per cent of new mortgages in the June quarter had debt-to-income ratios above six; last year the figure was 16 per cent.
No wonder the International Monetary Fund recently highlighted the threat of runaway property prices to the stability of our financial system, not to mention the inequity of low housing affordability, and recommended a “comprehensive policy response”. APRA’s modest beefing up of the interest rate buffer is expected to cut the maximum borrowing capacity for the typical borrower by about 5 per cent, so it’s not a big hit to the market. But, as market commentary quickly has confirmed, it may well be that APRA needs to roll out a series of measures to lessen the medium-term risks brewing in housing. The danger is that when interest rates do begin to rise, enough borrowers will find themselves in dire straits – such that the housing market crashes and lending institutions fail, with the knock-on effect of a credit squeeze for business and cuts in household spending.
On the macroprudential level, the IMF had canvassed options such as caps on debt-to-income ratios or loan-to-value ratios, as well as planning reforms and infrastructure projects to free up housing supply and spur new development. A tightening of lending controls specifically targeted at investors in the market would be another possibility. The stricter interest rate buffer is likely to hit first-home buyers hardest as traditionally they are more willing to stretch themselves when it comes to borrowing because of the emotional value attached to the Aussie family castle, and they often find themselves in bidding wars with investors.
It goes without saying that at this point the Reserve Bank cannot tighten monetary policy as we prepare for the post-Covid opening up of the economy, starting with the two most populous states of NSW and Victoria. It’s true that, all going well, we can expect a rebound in economic growth following a brutal contraction in the September quarter. The Commonwealth Bank has highlighted an expected boost in spending, thanks to about $230bn in savings accumulated during the pandemic. The OECD is predicting our economy will grow by 3.3 per cent next year.
It makes sense to keep economic policy in stimulatory mode for the present because there is plenty of uncertainty ahead as businesses and employees gear up for the new normal. Queensland and Western Australia may lag in rejoining the national economy because of their relative isolation when the Delta variant of Covid-19 was spreading in NSW and Victoria, and prompting the rapid take-up of vaccination that enables the opening up of those states. Inevitably, there will be issues to work through in restocking, supply lines, logistics, staffing, investment and post-pandemic business models.
Policymakers will have to be attentive and agile and keep a weather eye on the inflationary pressures emerging in the US and Europe, where the drivers include disrupted supply, spiking energy prices and skill shortages. In Australia, by contrast, the history of sluggish wage growth predates Covid and soon we may be able to plug labour market gaps with skilled migrant flows again. Even so, we can’t afford to sail into the near economic future with a roaring housing boom in tow.