New Zealand’s central bank is considering tightening mortgage lending standards even further. In June the New Zealand Government gave the Reserve Bank the green light to tighten lending. This morning, they announced they’ll consider a series of new measures in October. The big changes they’ll consider are further limits to high loan-to-value ratio (LVR) borrowing, debt-to-income limits, and an interest rate floor. Let’s take a look at these measures, shall we?
Limiting High Loan-To-Value Borrowing
The country is considering further restrictions on high loan-to-value ratio (LVR) borrowing. A high LVR ratio is when a loan is more than 80% of the value of the home it’s secured against. The country began limiting these loans on March 1 of this year, to 20% of mortgage originations. They aren’t getting the desired results, so they’re considering limiting it to 10% of loans.
Since an expansion of credit leads to higher home prices, the idea is to limit credit. By limiting high ratio borrowers, they cut off the desired market speculators target. They also happen to prevent home buyers from overleveraging.
Debt To Income Ratio Restrictions
A debt-to-income (DTI) restriction would limit debt to a multiple of income. For example, a household with a DTI of 4 would have $4 of debt for every dollar they make. They didn’t elaborate on what they’ll consider at their October meeting, but they dropped a few hints before.
The RBNZ has previously said they consider a DTI ratio of 5 or higher, to be a highly leveraged borrower. They also mentioned recently they’re watching this segment of borrowers very closely. No one knows where they’ll cut it off (they probably aren’t even sure themselves), but it would be around there.
Canada has a similar concept, but expresses its DTI in percentage points. A highly leveraged borrower is one with a DTI of 450%, and the segment is a soaring share of the market. Regulators have expressed concerns, but definitely aren’t considering a limit.
New Zealand Considers Interest Rate Floors
Interest rate floors are a minimum rate lenders have to use to qualify borrowers. The idea is to limit leverage similar to raising rates, but without raising them. Borrowers also don’t have to pay more in interest. This way low rates can stay for other sectors, while limiting housing speculation.
Canada has a similar policy in place lovingly nicknamed the “stress test.” Some US banks have also voluntarily begun testing their borrowers against higher rates. The benefit is dual purpose — limiting default risk, as a benefit to both the borrower and lender. With rates near all-time lows, it’s a prudent measure to make sure borrowers can afford a hike in rates if they need to. Or the economy could never recover, and rates can stay nice and low forever.
New Zealand announcing they’ll consider further mortgage tightening is like warning shots. The country already implemented a round of measures, and ended its QE program almost a year early. By announcing they’ll crack down on lending in October, they’re clearly hoping to send a message. Expectations are the reason people speculate. Tempering expectations is how you cool a market.
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