Yesterday, Prime Minister Bill English announced that he would encourage the Reserve Bank to remove the loan to value ratio (LVR) rules that it put in place to take the heat out of rising house prices. As reported in Newsroom:
Prime Minister Bill English has rediscovered his jawbone and has sent a clear message to the Reserve Bank that he expects it to start thinking about scrapping its restrictions on loan to value ratios, now that house prices across the country are flat or falling. He also said a new limit on debt to income multiples that the bank wanted to introduce was no longer needed.
Speaking to reporters before National’s Tuesday morning caucus meeting, English also said he saw no need for the introduction of debt to income ratios because it was “pretty obvious” that there had been a correction in the Auckland housing market.
The Reserve Bank introduced its first version of Loan to Value Ratio speed limits in October 2013, which included an across-the-board 20 percent deposit requirement. The Government agreed after initial objections, and only on the grounds the restrictions would be temporary.
The Reserve Bank has stopped talking about the measures being temporary and has been consulting on the introduction of a new tool – the debt to income ratio limits – to slow lending to home buyers. This is a potential limit on debt to income multiples (DTI), possibly at around five times income. Reserve Bank Governor Graeme Wheeler repeated last week that he wanted the tool just in case the housing market took off again after the election on September 23.
The initial restrictions slowed house price inflation for a few months before a lack of housing supply and record high migration drove another acceleration through 2014, particularly after the re-election of the National Government dampened speculation about a Capital Gains Tax and foreign buyer restrictions.
The Reserve Bank introduced a second round of restrictions in Auckland in November 2015, which included a 30 percent deposit requirement for investors. The second round slowed the Auckland market for a few more months, before it accelerated again through early 2016. The Reserve Bank then introduced a third round of restrictions in October 2016, which included a nationwide 40 percent deposit requirement for landlords. That has played a major part in a sharp fall in house price inflation in Auckland, where prices are now down around three percent from their September 2016 peak. Price inflation has also slowed elsewhere in the country.
For context, here’s what’s happened to median house prices in Auckland over this time (from interest.co.nz). While there has been a flattening off in prices over the last six months or so, and a slight fall from the peak, prices are still considerably higher than they were four or five years ago.
It is no easy task to arrest house price inflation in a market that has run out of control. The government deserves credit for pulling lots of levers on both the supply side and the demand side. (Even as it’s faced criticism for not pulling them fast enough.) As I’ve pointed out in the past, we’re lucky to have local and central governments that have been willing to act. It’s important to recognise that we’ve made some key supply-side reforms, including a big increase in the number of homes that can be built in Auckland under the Unitary Plan, that are a necessary condition for overcoming our housing deficit.
But signalling that LVR rules will be withdrawn in response to slowing price growth risks unwinding all of this. It is tantamount to pouring gasoline on the housing fire just as it’s starting to die down.
While LVRs aren’t necessarily going to be needed in perpetuity, removing them at this point would be catastrophic for two reasons.
The first is the message that this sends to property investors. At this point, house prices are so high relative to rents that rental properties only earn money as a result of capital gains. As a result, most property investors are more accurately described as property speculators. They are gambling on the prospect that prices will continue to rise, even though further price increases are socially and economically unsustainable.
Proposing to remove LVRs in response to slowing price growth sends a clear signal that the government will intervene to guarantee that property speculation is a one-way winning bet. If that’s the case, why on earth would anybody ever choose to invest money in a business in New Zealand rather than ploughing it into residential property? After all, you can lose money running a business…
The second is the message that this sends to first home buyers, young people, and low-income people. It tells us that current levels of housing unaffordability are the new normal. We can forget about prices returning to where they were two years ago, let alone to the halcyon memory of five years ago. Things may not get any worse – but we can guarantee that they won’t get any better.
Now, I fully understand why it’s painful to actually contemplate a fall in house prices. Some people will lose out as a result. Some of those people will have scrimped and saved to buy a home that was just a bit too expensive in a rapidly rising market. So most politicians – not just Bill English! – shy away from the topic as a result.
But that’s the discussion we need to have if house prices are levelling off and we’re trying to decide whether to throw more fuel on the inflation bonfire. Do we want an economy (and society) where property speculators are protected from all downside risks? Or do we want a society that gives everyone – including the young, including the poor – access to decent and reasonably affordable housing?