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In its Financial Stability Review for April 2021, the Reserve Bank of Australia (RBA) noted that accommodative financial conditions, including the commitment from central banks to keep interest rates at significantly low levels for several years, as well as expectations of continued recovery in economic activity, have contributed to rising asset prices (including rising house prices) and indebtedness in some sectors.
As such, the RBA warned that in this environment of accommodative financial conditions and rising asset prices, it is particularly important that the financial sector does not engage in “excessive risk-taking”.
Explaining further, the RBA said: “Increased risk-taking by lenders could take the form of looser lending standards for individual loan assessments, or a relaxation of internal limits on the share of riskier loans they make.
“Even if lenders do not weaken their own settings, increased risk-taking by optimistic borrowers could see a deterioration in the average quality of new lending. This would weaken the resilience of businesses and households, and so the financial system, to future shocks.”
“Increased risk-taking would fuel rising debt, from already high levels, increasing the debt-related risks to the economy and financial system from a fall in asset prices and borrowers’ income.”
Nevertheless, the RBA underscored that lending standards have remained “robust”, adding that the strengthening of lending standards since the mid-2010s has ensured that indebted households generally had enough income and equity buffers to manage the COVID-19-induced economic downturn.
“The improvement in lending standards in Australia for property from the mid-2010s helped to ensure borrowers were well placed to weather the economic shock over the past year, demonstrating the benefits to the financial system and the economy of appropriately controlling risks,” the RBA said.
The RBA noted that while lending standards were initially tightened further at the onset of the COVID-19 crisis amid fears of deteriorating economic conditions, these have since been wound back as the economic outlook improved.
The RBA also said it is optimistic about the levels of housing loan arrears rates, adding that any rise in arrears over the coming months would likely be more modest than previously expected due to “better-than-expected” economic conditions.
According to the RBA, loans still on deferrals are at greater risk of entering arrears than those that have already exited repayment deferral arrangements.
Recent data from the Australian Prudential Regulation Authority (APRA) showed that as of 28 February, $14 billion worth of loans remained deferred, comprising 0.5 per cent of total loans.
The share of high loan-to-value ratio (LVR) lending increased over the second half of 2020 but has remained low by historical standards, the RBA said, while the share of interest-only lending has remained steady at low levels, and the share of lending at high debt-to-income ratios also increased over the second half of 2020 following earlier declines.
The RBA attributed some of the increase in high LVR lending to owner-occupiers to the greater share of first home buyers (FHB), who it said had responded to government incentives such as the HomeBuilder scheme and the First Home Loan Deposit Scheme, and lower interest rates, increasing the appeal of purchasing a home compared to renting.
The RBA’s analysis of securitisation system data showed that for loans less than five years old, FHB and other loans have similar prepayment buffers and arrears rates.
“While new loans are generally at higher risk of facing repayment difficulties in the event of a shock to household income than older loans, there is little evidence to suggest that lending to first home buyers has been an especially risky form of lending,” the RBA said.
Meanwhile, the RBA said in its review that non-banks have grown housing lending since late 2020, after limiting it at the peak of the COVID-19 crisis.
The non-banks have increased issuance of residential mortgage-backed securities (RMBS) to “high levels” since funding conditions have improved, while spreads have declined to their lowest levels since 2007, the central bank said.
“Liaison indicates that credit quality at non-bank lenders has remained sound, both for lending to households and to businesses,” it said.
“One indication of the resilience of the sector has been its ability to manage loan repayment deferrals. Both the share of (prime) customers on deferral at non-banks and the credit quality of their deferred loans (during and after the deferral period) appears to be similar to those of banks.”