Three years ago I coined the term “invisopower” to describe Australian financial regulators’ weirdly opaque post-GFC tightening of bank regulation. The changes wrought by regulators were (and remain) far larger than the public sales pitch of “exceptionalism” trumpeted worldwide. The largest of these changes was APRA’s insistence that banks lend dollar-in dollar-out, deposits for loans, which contributed to a sustained widening between the cash rate and term deposits, forced the nation to save more and prevented any further growth in Australian bank foreign wholesale debt. That has been a huge success.
But throughout this period I have warned that the approach of operating behind closed doors while pretending in public that nothing had changed came at a very high price. The most obvious is moral hazard. Hand shake deals between regulators and banks removes any public pressure from both to perform to benchmarks understood by the polity. This has the combined effect of weakening their accountability and the societies’ commitment to prudential goals. Indeed, the entire edifice of secret regulation combined with public statements of confidence leads inevitably to overconfidence as banks and customers alike can simply assume that those infallible folks at the RBA and APRA have it all under control. I’ve lost count how many times this simple talisman has been waved in front of me by bulls of all stripe.
A second major problem is regulatory capture. Lowering public scrutiny of the regulator also leads to the danger that it will itself lose sight of broader civic objectives in favour of the closed loops of logic spun out by the regulated.
Suddenly, it seems, Australia is paying a very high price for the first of these two dangers, if not the second just yet, as housing investors in Sydney throw caution to the wind. The growing private chorus for action to stem the flow of rising investor housing finance in our largest city – which now includes MB, Ross Garnaut, Bob Gregory, Chris Joye and PIMCO – is matched only by the deafening and damaging silence of regulators in reply.
But does that mean that they’re doing nothing? Given the opacity of it all who knows? But according Alan Mitchell of the AFR, they are moving to dampen activity:
The New Zealanders are capping the loan-to-valuation ratio on the majority of loans. An alternative is to effectively cap the loan-to-income ratio by, for example, requiring the banks to be more conservative in their tests of whether borrowers can cope with a future increase in interest rates.
But, as APRA’s chairman, John Laker, points out, there is an intermediate step in the management of lenders, which he calls “engaging across the table”.
There will be a lot of that going on in the coming months. It won’t be announced publicly, of course. But you might be able to detect it in the change in your bank manager’s behaviour.
Mitchell is one of those chosen few hacks that has access to the highest echelons of regulator thinking so this cannot be dismissed out of hand. It may be that macroprudential tightening is warming up behind the scenes. Then again, it may not. And that’s the problem, we just don’t know. This is made more murky this morning by what might be evidence of prudential tightening or it might be smoke and mirrors from the banks. From the AFR:
Banks are increasing the “buffers” they use to assess whether home buyers can afford to take out a mortgage, amid concerns that some borrowers may not be able meet repayments when Australia’s record-low interest rates start to rise.
The tougher loan criteria have been put in place over the past few months after the Reserve Bank of Australia cut official interest rates in May and August, taking the official cash rate to just 2.5 per cent. It comes as financial regulators put pressure on banks to not lower their lending standards while interest rates are down and amid calls for tighter credit restrictions to prevent a house price bubble.
“Interest rates are at historic lows and at some point . . . they are going to start going up and at that point you want to be confident that those loans are going to be serviceable at higher interest rates,” Australian Bankers’ Association chief executive Steven Münchenberg said.
…Mr Münchenberg said Australia should be careful about adopting harsher lending rules just because they have been introduced elsewhere.
You have to ask yourself, why the secrecy? What does it add? Beyond making a few bureaucrats feel omnipotent I can’t see any value at all. Indeed the opposite is true in the moral hazards discussed above which are already doing real damage to the real economy.
To illustrate, let’s consider the counter-factual. What if the RBA and APRA were both publicly discussing macroprudential tools right now and had been for the past twelve months? If the RBA and APRA were, through such a process, regularly warning investors not to extend already rich housing market valuations, and warning markets that the Australian dollar was in their sights I submit to you that the outcome would be different.
What is currently perceived to be a “one way bet” for property investors, local and international, would have regulatory risk hanging over it. Same for those long the dollar.
That is not to say that we’d not be seeing the current rebound in housing activity. We would. The lure of cheap credit will always attract “a few idiots” as a former RBA doyen once told me. But the threat of decreased credit availability would be real enough to hold that activity in check, possibly even without the deployment of the tools under discussion.
Some will argue that New Zealand has done this and it hasn’t worked. But that’s exactly the point. New Zealand waited too long to do it. Momentum was already loose in the housing market and psychology had decisively shifted to the fear of “missing out” on price gains. If Australian regulators had followed a year ago, as MB advised, we’d not be where we are now.
So what is driving this damaging regulator secrecy? A few years ago it was seen in inner circles as an essential component of rebuilding Australian bank reputations in global markets. I never bought it, but perhaps it was defensible with the GFC and then European crisis keeping global funding costs elevated and global bond investors jumpy.
But now, with those same investors getting nervous about renewed inflation of the Australian housing bubble, that rationale has surely passed its use-by date. As well, five years of weaning bank balance sheets from flighty global markets has improved bank’s liability profiles noticeably. The horrendous leverage in mortgage books is still there and the reliance on offshore markets remains very large, but deposit ratios are now defensible. The fear implied by regulator secrecy is increasingly counter-productive to developing trust in financial stability.
Three lines and guess work from a single journo as a firebreak for a Sydney property inferno and the building threat of having to hike interest rates just as we face the steepest fall in business investment in 70 years is no substitute for transparent regulation.
