Econosights — The turnaround in the Australian housing market and implications for macroprudential policy

Econosights - The turnaround in the Australian housing market and implications for macroprudential policy

A loosening in macroprudential policy in 2019 is one of the factors behind the turnaround in home prices.

We expect home price growth of 5% after the current bounce runs its course. But, the strong reacceleration in Sydney & Melbourne prices means upside risks.

Macroprudential policy could be used again if the housing upswing creates new financial stability risks. The biggest risk is extremely high Australian household debt. However, policies like debt-to-income or loan-to-value caps and lending limits would probably cause more distortions in the housing market.

The problem of high household debt is the impact on debt serviceability, especially if the economic backdrop deteriorates. It would be better for macroprudential policy to continue to focus on mortgage serviceability which can be controlled by further strengthening lending standards when assessing individual borrower serviceability.

Monetary and fiscal policy are the two main levers used by policymakers to influence the economy. But, macroprudential policy has also been gaining popularity as an additional policy tool to offset some of the risks created by low interest rates.

Macroprudential policy deals with managing financial stability risks which usually means limiting credit and debt growth, tightening lending standards and increasing bank regulation. In this Econosights, we look at the main issues related to macroprudential policy in Australia.

Australia and macroprudential policy

In Australia, the Australian Prudential Regulation Authority (APRA) is in charge of administering macroprudential regulation, with the RBA also involved in consultations. From 2013 to 2016, interest rate cuts and housing undersupply (predominately in New South Wales and Victoria) were fuelling rapid home price growth. The regulators were concerned about the huge lift in investor lending and the sharp rise in interest only loans. From late 2014 onwards, APRA introduced various macroprudential tools to combat these risks in the housing market including: limiting banks’ investor loan growth, introducing a minimum 7% interest rate when assessing new loan serviceability, more scrutiny on loan applicants expenditure based on average household expenditure and overall debt levels, increasing capital buffer requirements for banks and limiting interest-only lending. The progressive use and tightening of macroprudential policy over 2014-2017 was a significant contributing factor behind the slowing in housing prices and credit growth (especially for investors) – see chart below.