There has been much talk lately about loose lending standards in Australian banking.
We’ve had an exposition of lending practices in Western Sydney by hedge fund manager John Hempton and Jonathan Tepper from Variant Perception and we’ve had revelations of problems with offshore borrowers’ income verification at the major banks.
But, believe it or not, it is Australian lending standards which Paul Dales, Capital Economics’ chief economist for Australia and New Zealand, says will protect the local housing market from a US-style collapse in prices.
Dales says, “lending conditions during the good times have not been as loose as in America and Australian banks are better placed to cope with the bad times”.
But while a US-style collapse isn’t likely to happen, Dales says prices will stagnate for a couple of years before “house prices in Australia will fall outright in both 2019 and 2020”.
Dales says that it’s easy to say the “Australian housing market looks even more vulnerable to a large fall in prices than the US market did before prices there fell by 30% during the GFC” given the “350% rise in prices since 1990 eclipses the 140% rise in the US before its bubble burst”.
But again he says it’s lending standards which will hold Australian housing in good stead.
“The extent of the excess in Australia isn’t as large as lending standards aren’t as loose,” he says. “For example, just 9% of loans in Australia are being issued to borrowers with a deposit of less than 10%. At the peak of the US boom, it was 29%. And the outstanding value of mortgages that are similar to America’s subprime loans is 2% in Australia.
“In the US, the share peaked at 14%.”
No crash then.
It would have already happened, Dales says, if it was going to be in a similar vein to the US housing collapse. But prices are vulnerable given their elevated levels compared to incomes with the catalyst the RBA when it eventually raises rates.
But Dales, who was the first to call this easing cycle the RBA is currently undertaking back in 2015, says “that trigger won’t be pulled until 2018 at the earliest”.
The reason an RBA move is the smoking gun to knock house prices lower is because of Australia’s high debt levels which means, “interest payments are already absorbing a large share of household income even though interest rates are at a record low. As and when rates rise, that burden will grow and may be too much to bear for those borrowers without funds saved in offset mortgage accounts”.
Dales says interest-only borrowers are particularly vulnerable when it comes time to start repaying principal once rates rise.
Overall though, in the context of the rise in prices in the past 20 years, Dales’ expectation about the fall in prices is relatively mild and should overly trouble the economy, or economic outlook given RBA rate rise should be accompanied by an accelerated economic expansion.
“Overall, we doubt that national house prices will rise much over the next few years and, if interest rates rise in 2018, prices may fall by about 10% over 2019 and 2020,” he says.
“Any price fall will be smaller than the 30% drop in the US, though, mainly as the relative health of Australian banks will prevent a US-style spiral of large loan losses leading to a severe credit crunch and yet more losses.”