Tougher mortgage lending standards could risk a 'credit crunch' -- and that would be bad news for the economy

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  • UBS describes APRA’s moves to limit mortgage lending based on debt and income levels as macroprudential “Phase 3”.
  • It says this could result in a sharp slowdown in credit extended to Australian households.
  • If this were to take place, it says it would create headwinds for the housing market and broader Australian economy.

In an attempt to reduce building risks in Australia’s housing market, APRA, Australia’s banking regulator, has introduced tighter lending restrictions on home loan borrowers in recent years.

These restrictions, known as macroprudential policies, started in late 2014 when APRA introduced a 10% annual cap on housing investor credit growth. That was subsequently followed up by the regulator limiting interest-only loans to 30% of total new mortgage debt in March 2017.

Now, APRA’s restrictions have evolved again, removing the cap on annual investor credit growth for some lenders while announcing more stringent lending criteria for already heavily-indebted borrowers.

APRA now expects lenders to develop internal portfolio limits on the proportion of new lending at very high debt-to-income levels, and policy limits on maximum debt-to-income levels for individual borrowers.

“This provides a simple backstop to complement the more complex and detailed serviceability calculation for individual borrowers, and takes into account the total borrowings of an applicant, rather than just the specific loan being applied for,” APRA said in a statement.

To George Tharenou, economist at UBS, APRA’s decision is effectively macroprudential “Phase 3”, and will likely have far greater ramifications than the restrictions they replaced.

“[It] suggests a more rapid tightening of lending standards than our base case outlook. Despite the perception of the removal of macro-prudential investor limits as ‘an easing’, we see this as further evidence of our credit tightening scenario,” he says.

“The risk of a ‘credit crunch’ cannot be ruled out.”

This is a scenario where credit growth to households slows sharply or even contracts.

As Jonathan Mott, an analyst at UBS, noted in a separate research report, the risks of a “credit crunch” are elevated right now given the current regulatory and political environment.

We believe that a number of other factors further increase the risk of a ‘credit crunch’,” he says.

“These include Bank Boards and management [becoming] much more risk adverse following the Royal Commission’s allegations, mortgage brokers potentially moving from upfront and trail commission to a flat fee-for-service and the introduction of Comprehensive Credit Reporting (CCR) from July 2018 which will enable the banks to see borrower’s complete debt positions.”

Mott says potential changes to negative gearing rules should Labor win the next Federal election, along with interest-only borrowers rolling to principal and interest repayments, could also exacerbate a potential slowdown in household credit growth.

Should a sharp slowdown in credit growth to households eventuate, Tharenou says this will have ramifications far beyond the ability to get a home loan.

“[It] raises the risk of a material negative impact on housing and the economy,” he says.

“We see downside risk to our housing and RBA views, and it’s becoming more likely the RBA will keep rates steady beyond our long-held forecast of [an interest rate hike in early 2019].”

Weaker house prices lead to potentially weaker household consumption and residential construction. And that weakness extending to the broader Australian economy, means less need for the RBA to begin to normalise interest rates.

While this is only a risk in UBS’ opinion, it’s clear that housing and credit indicators have now joined labour market and inflation data as the key domestic factors that will determine if and when the RBA begins to lift interest rates.

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