Finance Minister agrees 'in-principle' to give RBNZ debt-to-income tools; Consensus yet to be reached on how the impact on first-home buyers would be minimised

By Jenée Tibshraeny

Finance Minister Grant Robertson has agreed "in-principle" to give the Reserve Bank (RBNZ) debt serviceability tools.

These tools will enable the RBNZ to restrict banks' mortgage lending based on a borrower's ability to service their debt.

While the RBNZ's focus has mainly been on debt-to-income (DTI) ratio limits, debt-servicing-to-income limits or a floor on the test interest rate that banks use in their serviceability assessments could also be considered.

The RBNZ hasn't yet committed to implementing the restrictions, and will consult with the industry on the feasibility of doing so.

It said: "If a further tightening of policy settings is needed in the short term, the most straightforward response would be to tighten LVR [loan-to-value ratio] restrictions further."

The RBNZ estimated a DTI cap would take at least six months to design and implement. It said a floor on test interest rates could be put in place in a shorter timeframe if needed.

Not a done deal - FHBs still the sticking point

The RBNZ will now work with Treasury to add debt serviceability tools to the 2013 Memorandum of Understanding (MoU) on macro-prudential policy between the Finance Minister and RBNZ.

Robertson will need to sign off on the MoU for the RBNZ to get the tools.

He has signed a document saying he has agreed “in principle” to add the tools “on the condition that it is understood that the Minister's agreement is predicated on any implementation being designed to avoid impact, as much as possible, to first-home buyers”.

This suggests first-home buyers won’t be exempt from any DTI restrictions.

However, Robertson said, in a statement sent to media, he retained the view restrictions should "apply only to investors".

Successive governments have declined the RBNZ’s request for DTIs over political fears these would make it more difficult for people to enter the property market.

However, the RBNZ has said it would be difficult to target restrictions, but it could allow a certain portion of bank lending to go to borrowers who don’t meet the prescribed DTI ratio.

This is how LVRs are designed. Under LVR rules, up to 20% of bank lending to owner-occupiers can go to borrowers who don’t have a deposit of at least 20%.

The RBNZ has also modelled applying loose or forgiving DTI restrictions to first-home buyers (IE allowing a borrower to take out debt worth more than six or seven times their income).

And it's modelled having an exemption for first-home buyers purchasing at prices below the current Kainga Ora Home Start Grant caps.

Interest-only restrictions off the table

Further to a request from Robertson, the RBNZ also assessed the effectiveness of restricting interest-only lending.

It concluded interest-only lending to investors (or other borrowers) "does not pose financial stability risks, nor do they impact negatively on the Government’s housing objectives".

"We also found that restricting interest-only lending would be challenging to implement and enforce," the RBNZ said.

Robertson accepted this, saying, "The Bank notes the use of interest-only lending has been trending downwards since 2016 for both investors and owner-occupiers. The Government’s interest deductibility changes are likely to separately and significantly reduce demand for interest-only lending among investors."

The RBNZ’s case for DTIs

The RBNZ said debt serviceability restrictions would be the most effective additional tool it could use to support financial stability and house price sustainability.

Its analysis suggested restrictions would impact investors most powerfully, while having limited impact on first-home buyers.

It also maintained DTIs would complement LVRs, as they address different dimensions of housing-related risks - DTIs reduce the likelihood of mortgage defaults while LVRs largely reduce losses to banks if borrowers default.

"Over the coming months we will also be discussing with industry the feasibility of implementing a DTI limit and other debt servicing restrictions as part of our financial stability toolkit," the RBNZ said.

"Any decision on implementing debt serviceability restrictions will be preceded by a full public consultation process, along with a Regulatory Impact Assessment."

Here's a press release from the RBNZ:

The Reserve Bank – Te Pūtea Matua and the Minister of Finance have agreed to update their shared Memorandum of Understanding (MoU) on macro-prudential policy and add debt serviceability restrictions to the list of potential tools available.

In February, the Minister of Finance issued a formal direction to the Reserve Bank (under section 68B of the Reserve Bank Act) for us to have regard to house price sustainability when making financial stability decisions. This is separate from the Monetary Policy Committee’s monetary policy remit.

The Minister also requested more information and analysis on debt-to-income ratios and interest-only mortgages. The Bank provided this advice to the Minister last month, and we are today releasing it publically.

Our analysis detailed that debt serviceability restrictions, such as a Debt-to-Income (DTI) limit, are likely to be the most effective additional tool that could be deployed by the Reserve Bank to support financial stability and house price sustainability. The analysis also demonstrated that any such restrictions would impact investors most powerfully while having limited impact on first home buyers. In our advice we also noted that we consider that a DTI limit would be a complementary tool to mortgage Loan-to-Value Ratio (LVR) restrictions as they address different dimensions of housing-related risk; DTIs reduce the likelihood of mortgage defaults while LVRs largely reduce losses to banks if borrowers default.

In his response, the Minister has agreed to add debt serviceability restrictions to the MoU in principle, on the condition that any implementation is designed to avoid impact, as much as possible, to first home buyers. We will now work with the Treasury to update the wording for the MoU, which will need to be approved by the Minister.

“Although we do not have a remit to target house prices directly, our financial policy tools can help to ensure prices do not deviate too far from sustainable levels,” Reserve Bank Governor Adrian Orr says.

“We believe that a ‘sustainable house price’ is the level that the price would be expected to move towards over several years, reflecting the underlying drivers of supply and demand for housing, including population growth, building costs, land supply, and interest rates.”

Over the coming months we will also be discussing with industry the feasibility of implementing a DTI limit and other debt servicing restrictions as part of our financial stability toolkit. Any decision on implementing debt serviceability restrictions will be preceded by a full public consultation process, along with a Regulatory Impact Assessment.

Here's a statement from Robertson:

I have agreed in principal to the addition of debt serviceability restrictions to the Reserve Bank’s macro-prudential toolkit on the condition that this should not impact on first home buyers.

I retain the view that the development and design of any debt serviceability tool such as a debt-to-income (DTI) ratio limit should apply only to investors.

The Reserve Bank has clearly stated that there is no immediate plan to use DTIs and any decision to do so would only happen after a full public consultation. The Government has already put in place a number of measures to cool the housing market and it’s important to give these initiatives time to assess their impact.

I have accepted the Reserve Bank’s advice on interest-only lending, which will not be included in the MoU. The Bank notes the use of interest-only lending has been trending downwards since 2016 for both investors and owner-occupiers. The Government’s interest deductibility changes are likely to separately and significantly reduce demand for interest-only lending among investors.

Further work by officials now needs to be done on the wording in the 2013 Memorandum of Understanding (MoU) on macro-prudential policy to ensure it is consistent with supporting the soundness of the financial system and the Government’s housing policy objective of sustainable house prices, as set out in the section 68B direction.

This story was originally published on Interest.co.nz and has been republished here with permission.