Are the Reserve Bank’s new measures adding fuel to the fire? Experts agree: reining in house prices is no simple task

House prices have become the hottest topic of early summer

Since the Reserve Bank announced the removal of LVR restrictions and introduced low interest rates, New Zealand house prices have rocketed upwards.

Just yesterday, a property in Epsom’s double grammar school zone, with a capital value (CV) of NZ$4,700,000, fetched NZ$7,060,000 at auction, making it the undisputed standout property sale of the week.

This was far from an isolated case. According to Barfoot & Thompson, of the 24 properties auctioned yesterday afternoon alone, 9 sold for more than NZ$2,000,000 and 4 for more than NZ$3,000,000. CVs, once regarded as a benchmark for property values, have become virtually meaningless in the auction market.

The latest Real Estate Institute of New Zealand (REINZ) report shows the national median house price rose nearly 20% year on year in October, while Auckland’s median broke the million-dollar barrier for the first time.

Even re-elected Prime Minister Jacinda Ardern recently expressed “concern” in an interview about the social effects of high house prices.

Economists tracing the causes have pointed to two economic support policies introduced by the Reserve Bank early in the pandemic to stabilise New Zealand’s property market as the “culprits”: removing LVR restrictions and lowering lending rates.

Against this backdrop, it is hardly surprising that the Reserve Bank issued a new statement yesterday aimed at cooling the overheated property market.

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Reserve Bank to consider reinstating LVR restrictions

The Reserve Bank announced yesterday that it would begin research and consultation in December to determine whether LVR restrictions could be reinstated in March next year.

Deputy Governor Geoff Bascand said: “We are closely monitoring the rapid growth in higher-risk investor lending. We will examine whether to return to the pre-pandemic LVR restrictions, which limited the volume of higher-risk lending banks could undertake.”

As is widely known, the Reserve Bank announced in May this year that it would temporarily remove LVR restrictions on home loans. At the time, it said the policy would remain in place for at least a year before any changes were considered. The move was intended to encourage commercial banks to lend.

The measure unexpectedly went too far. Removing LVR restrictions meant banks could issue high-LVR home loans to borrowers with smaller deposits under looser rules. It also removed the previous limit on lending to

property investors, which capped loans at 70% of the total purchase price.

ASB economist Nick Tuffley said the bank’s high-LVR lending to property investors had increased 134% compared with the same period last year.

So, with the Reserve Bank planning an early review just half a year after introducing the policy, can it limit the damage in time? Experts do not think so.

Is restoring LVR restrictions in March next year too late?

Experts say loan-to-value ratio restrictions appear likely to return, but the signal sent by the Reserve Bank could add fuel to the summer property market.

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Under the Reserve Bank’s plans, any reinstated LVR restrictions could take effect from 1 March next year. Although the development is unsurprising, economist Tony Alexander believes waiting until next year to make the change is a serious mistake.

Alexander’s earlier joint survey with REINZ and his latest spending intentions survey both show a substantial increase in property investors over the past month, while first-home buyers are withdrawing.

“The Reserve Bank’s primary responsibility is maintaining financial stability. Low-deposit lending has increased substantially in the current market, with more of it going to investors rather than first-home buyers.”

 “Investors are now the key drivers of the market. The Reserve Bank’s policy means that if you are an investor considering a purchase, you should act immediately to get ahead of the LVR restrictions.” Yesterday’s announcement therefore added fuel to an already hot housing market. “This approach ensures the recent heat in the property market will continue throughout summer,” he said.

Alexander believed the Reserve Bank should instead have made a decisive call on how to reinstate LVR restrictions and implemented it immediately.

Owen Vaughan, editor of property website OneRoof.co.nz, also said the move would only add fuel to the property market. “The Reserve Bank’s announcement is effectively telling buyers, sellers and investors to hurry up and complete transactions before March, or face LVR restrictions.”

Loan Market mortgage adviser Bruce Patten backed the experts’ predictions, saying his company had already received numerous enquiries from clients seeking high-LVR loans before the policy changed.

Record-low interest rates are the more important factor

However, Alexander also stressed that the importance of LVR restrictions should not be overstated. In fact, high-LVR lending had accounted for only a fifth of total home lending in recent months.

He therefore expected reinstating LVR restrictions might only temporarily restrain house price growth.

 “I expect the market to slow in March, April and May, but heat up again after June.”

Westpac economist Dominick Stephens agreed, predicting that reinstating LVR restrictions would only “take the froth off the market”. Record-low interest rates, by contrast, were the most important factor driving house prices higher.

He said: “Over the past thirty years, the biggest reason for rising house prices in New Zealand has been sharp changes in interest rates. I think the current situation is the clearest evidence of that.”

This means the second measure announced by the Reserve Bank yesterday may be even more significant: a Funding for Lending Programme (FLP), to be launched in December, providing commercial banks with more low-interest funding, reducing their funding costs and enabling them to lower mortgage rates further.

Are the Reserve Bank’s policies contradictory?

Considering reinstating LVR restrictions is intended to cool the property market. Yet injecting cheap funding into the market also means more inexpensive money will flow to homebuyers, pushing house prices higher. The apparent contradiction between the policies drew criticism from Andrew Bayly, the National Party’s newly appointed finance spokesperson in its shadow cabinet.

 “On the one hand, the Reserve Bank is adding fuel to the property market through loose monetary policy. On the other, it is trying to cool the market. The government must give serious consideration to the Reserve Bank and the consistency of its approach.”

Tom Rawson, owner of Ray White Manukau, also said the two powerful interventions could instead spur buyers and investors to enter the market quickly and buy sooner for fear of missing out, potentially accelerating house price growth.

How can LVR restrictions be made truly effective?

In fairness, the Reserve Bank is in a difficult position: maintaining low interest rates and encouraging lending are necessary to lift the economy and stimulate spending. That leaves LVR restrictions as the only option for restraining house prices. Specific measures for reinstating them are still far from settled, and industry figures have been offering their suggestions.

• Exempt first-home buyers from LVR restrictions

Campbell Hastie, a mortgage adviser at Go2Guys, believes that if LVR restrictions are reintroduced, the Reserve Bank should apply them to people buying a second property rather than first-home buyers. This is because “first-home buyers with only a 10% deposit and no equity face stricter debt-servicing and income tests than borrowers with a 20% deposit and substantial equity”. He believes simply reinstating LVR restrictions across the board would be very unfair to first-home buyers, particularly in Auckland.

• Tighten LVR restrictions further

Mortgage Supply manager David Windler said that if the Reserve Bank wanted LVR restrictions to affect the red-hot market, it should impose stricter limits. For example, it could restore the toughest settings used in 2016, requiring investors to provide 40% of the purchase price themselves when applying for a mortgage.

Given the current shortage of properties for sale and the widespread view of property as a safe asset offering better returns than other investments, Windler believed that “if the Reserve Bank takes a middle course and merely restores LVR restrictions to pre-pandemic levels, it will have little effect”.

 “So, if the Reserve Bank does intend to reinstate LVR restrictions, the most sensible approach is to impose strict limits on investors while leaving room for first-home buyers,” he said.