NZ's house price deflation policy works

The Reserve Bank of New Zealand’s unprecedented policy intervention to deflate house prices has worked According to the bank. 

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Six months ago the RBNZ introduced a 10 per cent 'speed limit' on loan-to-valuation ratios (LVRs) for mortgages, a so-called 'macro-prudential' tool. 

On Wednesday the bank delivered its first comprehensive report on the impact of the limit in its half yearly Financial Stability. 

"The restriction of high-LVR mortgages appears to be having the desired effect of moderating house price pressures and reducing the risk of a severe market correction," Deputy Governor Grant Spencer said in the report. 

The RBNZ introduced a limit on low deposit mortgages in October last year in an attempt to slow down double-digit house price inflation and reduce any risks to the banking system.  This new tool was watched closely in Australia late last year as house price inflation in Sydney and Melbourne zipped up into the double digits. 

New Zealand’s central bank specified that mortgages with a LVR of more than 80 per cent could not make up more than 10 per cent of banks' new mortgage flow over the first six months. 

In its report the RBNZ estimated the speed limit had the same impact on inflation as a 30 basis point increase in the Official Cash Rate, which effectively bought the Reserve Bank about six months of time in delaying hikes in that key rate until March. 

The bank found the limit had a "particularly strong restraining impact" on housing market activity in the first six months. House sales volumes dropped 11 per cent in the first six months, which was more than the 3-8per cent fall the bank had modeled. 

ANZ's Senior New Zealand economist Mark Smith says although the effectiveness of the tool is likely to diminish over time, it is unlikely to be removed for a while yet. 

"Property prices have continued to go up and with net immigration and the labour market strengthening, the housing market is likely to remain on the RBNZ’s radar screen for a while yet," Smith said. 

The RBNZ said the moderation of house price inflation and credit growth was in line with its modeling. It estimated house price inflation, which is currently running around 8 per cent nationwide, would have been around 2.5 percentage points higher without the limit. 

The central bank, which unlike in Australia also acts as the banking system regulator, said banks had complied well with the rules and there was little evidence of avoidance or leakage into the non-bank sector. 

The bank repeated the high LVR limit would be temporary but was unlikely to be removed before the end of this year. Spencer said it could then be eased in a phased way, possibly by progressively lifting the 10 per cent limit. 

Meanwhile, the RBNZ refreshed its tick of approval on the soundness of the financial system but warned again of the risks from relatively high household and dairy farm debt. 

It also spent a significant amount of the 53 page report addressing the risks to New Zealand from any financial and economic turbulence in China, which like Australia, is now New Zealand's largest trading partner. 

Governor Graeme Wheeler said disruptions in China's shadow financial system and any significant slump in economic growth could hit farm incomes in New Zealand and disrupt international markets for bank funding. 

But he said China's authorities had the capacity to intervene to stabilise financial markets and the banking system there. 

"Therefore, while the substantial financial stability risks in China must be monitored because of their potential impact on New Zealand, the Chinese authorities have some capacity to manage those risks."

The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.

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