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MAR 15

Housing – what can we learn from others?

Housing has been a hot topic in recent years, as prices in Auckland and Christchurch continue to rise. Housing is an issue that affects everyone, particularly through its effect on the tradable sector and average wages – drawing investment away from productive enterprise and keeping interest rates and consequentially the exchange rate higher than they otherwise would be. Rampant house price inflation also risks financial stability and crashes can plunge economies into recession – look at Ireland, Spain and even the U.S.

Some have been there before; it is worth a look around the world at what measures have been taken by other countries and central banks to stem asset price inflation - what we can learn and apply to our own situation?

There are two sides to the issue – demand and supply. On the supply side, under supply of housing naturally leads to higher prices. Hence the solution to this part is to increase supply, open up new land for development, focus on increasing the number of houses built and responsibly reduce constraints and barriers to new builds. But this can only move so fast, as allocation of finite construction resources and labour has a limit, and we are currently playing catch up – this is a key area for the Government to do more, especially for ensuring affordable housing is built.

So given these constraints, we will now focus on the potential demand side responses that might keep the lid on prices before supply catches up. Demand side action can be introduced faster to lower price pressure, debt growth and financial risk.

Last year the Bank of England reintroduced Loan to Income Ratios, where no more than 15% of mortgages issued can exceed a Loan to Income Ratio of 4.5. To explain, if you earn £100,000 a year, your loan would be capped at £450,000 – you can only borrow up to 4.5 times income.

The Central Bank of Ireland has also taken measures, learning from the damaging experience of a housing bubble and resulting crash. First they introduced similar Loan to Income Ratios, though set at a lower 3.5 times of gross income.

Ireland supplemented Loan to Income limits with Loan to Value Ratios similar to those introduced by our own Reserve Bank of New Zealand (RBNZ), set at 80% (same as New Zealand and means 20% deposit is needed), with a lower ratio of 70% for those buying rental properties. For first home buyers this is set at 90% for properties up to €220,000, with 80% on any value exceeding this. This tougher requirement on rental investors reflects their higher default risk as compared with owner-occupied homes.

Another issue often cited as a factor increasing prices is demand from foreign investors. Unfortunately with no register of such ownership in New Zealand it is hard to judge the extent of this, but other countries have introduced measures to deal with this problem.

Singapore saw record high prices, increasing 40% in the five years to 2013, and in response introduced stamp duty taxes on non-resident buyers of property. This tax now sits at 15%, increasing from 10% when it was introduced in 2012. They also introduced a cap on debt repayment costs at 60% of the borrowers’ monthly income. These measures have seen prices fall 4% in 2014, and sales volumes falling.

Australia has had similar problems, and like New Zealand, they have not had a foreign ownership register to measure the real extent. There are proposals to introduce such a register as well as fees on foreign investors: A$5000 fee for property up to A$1m, and investments over A$1m would incur an A$10,000 fee for each additional A$1m purchased – these measures are probably too small to make much difference but are a start.

England, Ireland and Australia also have some form of Capital Gains Tax.

The RBNZ is surely watching these and other Central Banks to see how these policies play out. The RBNZ are making some moves to address residential property investors here, currently consulting on creating a new asset class for such loans, requiring them to have higher risk weights to better reflect the higher default risk of investors as compared to owner-occupied properties. Bill English was quoted as saying the RBNZ had the tools to limit interest only mortgages, which are often cited as a way investors are negatively gearing properties to chase capital gains and reduce current tax paid.

It is clear that there are other tools that could be used to tackle our housing problem, of which many are already being used around the world - we should learn from their experience. Linking the expansion of private debt to earnings and equity is important not only for those trying to buy a home, but to reduce the impact on the tradable sector through the exchange rate channel and cost of borrowing for producers, in conjunction with other demand side measures such as the removal of the capital gains tax exemption on asset growth.

tags: housing, lvr, loan to value, loan to income, macroprudential, rbnz, central banks, supply, demand
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