For the second week in a row, HSBC’s chief economist, Paul Bloxham, has published an article in the AFR weighing-in against macro-prudential curbs on higher risk mortgage lending:
The recent adoption of [macro-prudential tools] in New Zealand will no doubt be of interest to Australian authorities, given the similarities between institutions in the two countries and the more mature housing price upswing across the Tasman…
Time will tell if this approach will work. However, there are a number of reasons to be sceptical.
First, New Zealand’s housing market fundamentals suggest further upside to housing prices, with only weak supply and strong inward migration set to support demand. These trends are hard to fight.
Second, if investors deem housing prices are likely to continue to rise, they could bring capital from abroad or seek to avoid the new rules by borrowing from outside the regulated banking system. Either way, loan-to-valuation restrictions may only have a limited impact on housing prices.
Finally, in our view there is some inconsistency in the RBNZ’s message. At the same time as placing restrictions on lending to slow house price growth, the RBNZ notes in its recent statements that it expects to keep its cash rate at a record low until the middle of next year. This final point is one of the key challenges of implementing macro-prudential instruments: co-ordinating their use with the central bank’s cash rate setting.
Bloxham’s arguments are questionable on a number of levels.
First, the RBNZ’s governor, Graeme Wheeler, has acknowledged explicitly that macro-prudential tools are no panacea to rising house prices, and has warned that the Government needs to progress with reforms to the supply-side of the housing market:
“It is critical that priority be given to implementing measures needed to relieve the shortage of housing and land supply, which is the dominant cause of the increase in house prices in Auckland and Christchurch. But the LVR restrictions have a useful role to play alongside the supply measures.”
In this regard, the RBNZ’s macro-prudential curbs on mortgage lending are merely designed to buy the National Government some time while supply-side reforms are implemented.
Second, the claim that there is inconsistency in the RBNZ’s message is false. The RBNZ has explicitly stated that raising interest rates would place upward pressure on the New Zealand dollar and would be detrimental to trade exposed sectors of the economy, killing-off the economic recovery:
“The LVR restrictions are designed to help slow the rate of housing-related credit growth and house price inflation, thereby reducing the risk of a substantial downward correction in house prices that would damage the financial sector and the broader economy.
“The conventional mechanism to help restrain housing demand, while working on the supply response, would be to raise the Official Cash Rate (OCR), which would feed through directly into higher mortgage rates.
“However, while higher policy rates may well be needed next year, as expanding domestic demand starts to generate overall inflation pressures, this is not the case at present. CPI inflation currently remains below our 1 to 3 percent inflation target. Furthermore, with policy rates remaining very low in the major economies, and falling in Australia, any OCR increases in the near term would risk causing the New Zealand dollar to appreciate sharply, putting further pressure on New Zealand’s export and import competing industries.
“In the current situation, where escalating house prices are presenting a threat to financial stability but not yet to general inflation, macro-prudential policy offers the most appropriate response,” Mr Wheeler said.
As noted previously, the RBA’s own extensive research shows that macro-prudential policy is effective:
The results establish a link between interest rates and macroprudential policy actions and subsequent fluctuations in real housing prices and real housing credit. Higher short-term interest rates tend to slow housing price appreciation and housing credit growth, although the magnitude of the effect is modest. Actions categorised as prudential measures (maximum LTV and DSTI ratios, provisioning requirements, real estate exposure limits and risk weights) are consistently jointly significant in our regressions. Decreases in the maximum LTV ratio are associated with reductions in the growth rate of housing prices. Similarly, reductions in the maximum DSTI ratio and increases in provisioning requirements are associated with reductions in the growth rate of real housing credit. We were unable to find any consistent relationship between changes in non-interest rate monetary policy measures and either housing price or credit growth, however. Taken together, our results suggest that certain types of macroprudential policies can be effective tools for stabilising housing price and credit cycles. This is good news for central banks seeking additional flexibility in their pursuit of macroeconomic and financial stability objective.
Would Bloxham seriously prefer that the RBA raises rates next year, in order to curb housing, just as mining investment falls?
