The Reserve Bank today opened consultation on its plan to bring back loan to value lending restrictions from March, two months earlier than expected.
The central bank dropped loan to value ratio restrictions on April 30 in a bid to ensure there were no barriers to banks offering home loan deferrals amid the chaos caused by the Covid-19 pandemic.
But a faster than expected recovery in the economy and a strong run in the housing market has prompted the Reserve Bank to bring them back sooner.
Geoff Bascand, Reserve Bank deputy governor and general manager of financial stability, said lending at higher loan to value ratios had risen, particularly for investors, and there were signs it was accelerating.
"We are concerned that an increase in highly leveraged borrowing, against an uncertain economic backdrop due to Covid-19, is beginning to create risks to financial stability. We are therefore consulting on reinstating LVR restrictions on 1 March, 2021. We intend to reinstate the LVR restrictions at the level they were before the onset of Covid-19," the consultation paper notes.
Under its proposal banks would be restricted to giving up to 20 per cent of new lending to owner occupiers with a deposit of under 20 per cent and less than 5 per cent to investors with a deposit under 30 per cent.
Reinstating the restrictions from March would give banks time to clear their existing pipeline of high loan to value ratio loans that had already been approved but not settled, the report states.
ASB, BNZ and ANZ have all said they will start restricting lending to investors with a deposit of under 30 per cent before then while Westpac has said it did not change its lending policy despite the lifting of the restrictions.
The report notes that it was likely that new high-LVR lending would decrease well before the March 1 reinstatement date.
But it seems the impact on house prices will be limited.
"We consider a reasonable estimate of the impact on house prices of reinstating LVR restrictions on 1 March, 2021, would be a reduction in house prices of 1-2 percentage points, relative to a counterfactual in which the LVR restrictions remained off.
"However, given housing markets can suffer from 'irrational exuberance', LVR restrictions should help to lean against a possible further acceleration."
The Reserve Bank does not have a mandate to directly target house prices.
"Our aim is to limit the risks to financial stability associated with high-risk lending in the housing market.
"If the current rate of house price inflation continues, we consider this is likely to increase the risk of a future sharp correction in house prices. This is of particular concern given the ongoing uncertainty over the economic outlook resulting from Covid-19, and the fact housing valuations in New Zealand are already elevated."
The fall in house prices may also result in a fall in spending as people feel less wealthy.
The Reserve Bank noted its research had found that on average people spent three cents more on consumption for each dollar increase in their house wealth.
But a fall in house wealth had a larger impact on reducing consumption than an increase in housing wealth had in boosting it.
"The overall economic impact of reinstating LVR restrictions is therefore uncertain. In the short term, to the extent LVR limits are effective in moderating house price inflation, they can be expected to reduce consumption and residential investment by comparison with a counterfactual in which the limits remain off."
But over the longer term, if LVR restrictions were effective in reducing the magnitude of a potential house price correction, this would support consumption in a downturn and thereby economic growth and employment.
"While the economic impacts of reinstating the LVR restrictions on 1 March, 2021, are likely to be relatively minor, we consider the overall economic impact will be positive over the long run. We expect a temporary, small negative effect on economic activity, however, the benefits to financial stability and long-term economic outcomes outweigh this temporary effect."
Submissions are open on the consultation document until January 22 with a decision expected to be made in February.
