Moody’s fears ‘resurgence’ of ‘excessive’ mortgage growth

Earlier this week, the Australian Prudential Regulation Authority (APRA) announced that it is proposing to remove its 7 per cent interest rate floor for home loan applications and increase its rate buffer to 2.5 per cent.

APRA chair Wayne Byres said the operating environment for ADIs had evolved in the past decade, prompting APRA to review the ongoing appropriateness of the current guidance.

In response to APRA’s announcement, Moody’s Investors Service acknowledged that the move would stimulate credit growth and slow the decline in dwelling values.

“The proposal is likely to increase borrowing capacity, with some banks reporting that the interest rate floor has been a key contributor to the decline in borrowing capacity in recent years,” Moody’s observed.

“Improving access to credit will support credit growth for the banks, which has declined significantly from its peak in 2014 and, in turn, stem the fall in house prices.

“Falling house prices are dampening household consumption and contributing to a weaker growth outlook for Australia.”

APRA’s announcement, along with expected rate cuts from the Reserve Bank of Australia (RBA), the Coalition government’s First Home Loan Deposit Scheme, and the rejection of the Labor opposition’s proposed changes to negative gearing and the capital gains tax (CGT), has prompted some analysts, including AMP chief economist Shane Oliver, to forecast a sooner than expected return to equilibrium in the housing market.  

“Our forecasts for national average prices have been for a price fall of 15 per cent top to bottom (of which we have done 10 per cent so far), and for Sydney and Melbourne, it’s been for a price fall of 25 per cent top to bottom (of which Sydney has already done 15 per cent and Melbourne 11 per cent) and for prices to bottom in 2020,” Mr Oliver noted.

“Reflecting [developments in the market], we are revising the estimate for Sydney home prices to a 19 per cent top-to-bottom fall, Melbourne to 15 per cent top to bottom (partly because it has been holding up much better, likely reflecting stronger population growth) and the national average to 12 per cent top to bottom with prices likely to bottom by year end.”  

However, Moody’s warned that policy and regulatory stimulus could mark the return of “excessive” credit growth, which the regulatory arrangements had sought to curb.

“Despite declining house prices, high household leverage remains a key risk to Australian banks,” Moody’s noted.

“[There] is a risk that the lowering of the interest rate floor, in combination with the potential for the Reserve Bank of Australia to lower the cash rate later this year, could drive a resurgence in excessive credit growth and another house-price boom.”

Despite its concerns over a potential rekindling of the housing boom, Moody’s expects general tightening in lending practices to offset expected growth.  

“[Banks] have progressively tightened mortgage underwriting practices, which provides a strong mitigant to this risk,” Moody’s stated.

“For example, banks have become increasingly focused on the verification of a customer’s declared income and living expenses. This move has decreased borrower capacity and significantly lengthened the mortgage application process.

“Banks have also developed limits on lending at high debt/income levels, where debt is greater than six times a borrower’s income, and have introduced haircuts on uncertain and variable income, such as non-salary and rental income.”

Mr Oliver agrees: “Given still poor affordability, still very high debt levels, tighter lending standards and rising unemployment, a quick return to boom time conditions is most unlikely.

“More likely is a lengthy period of constrained range bound house prices after they bottom later this year.”

[Related: APRA looks to amend mortgage lending guidance]