APRA’s surprising ease
APRA has begun working with the banks to assess the viability of easing its lending restrictions by removing the 7 per cent serviceability buffer with UBS economist calling the move a "surprising ease".
In a letter to the banks on Tuesday, APRA is now proposing that banks can be allowed to set their own floor, provided they allow a 2.5 per cent buffer on the current interest rate as part of their serviceability calculations.
The buffer standards were first introduced in December 2014 as part of the prudential regulator’s strategy to tighten lending standards particularly in a period of low interest rates.
APRA chair Wayne Byres said the operating environment for banks had evolved since 2014, prompting APRA to review the ongoing appropriateness of the current guidance.
“APRA introduced this guidance as part of a suite of measures designed to reinforce sound residential lending standards at a time of heightened risk. Although many of those risk factors remain – high house prices, low interest rates, high household debt, and subdued income growth – two more recent developments have led us to review the appropriateness of the interest rate floor,” Byres said.
UBS economist George Tharenou described the move as “surprising” particularly as APRA had said in January 2019 that the policy was intended to be permanent.
“Overall, APRA easing is a material surprise, joining the LNP 'miracle' election win, and first home buyer scheme, all positives for housing,” Tharenou said.
While the easing in lending restrictions are touted to increase the borrowing capacity of potential home buyers, the UBS economist also notes that in light of the shift away from HEM, lenders will remain vigilant.
“Lenders are likely to continue to move away from using the HEM benchmark and towards full verification of living expenses to comply with responsible lending laws.
“We estimate an increase in assumed HEM expenses of just 5-12 per cent would offset this easing.”
While any downside risks are mitigated, the UBS economist said a number of policy issues will mean that APRA’s measure may not necessarily “reflate housing”.
In particular, he notes that comprehensive credit reporting is still yet to be introduced and debt-to-income ratios will still need to be assessed.
Importantly, we haven't seen full implementation of comprehensive credit reporting or limits on high debt-to-income loans, with APRA directing banks to "develop internal risk appetite limits on the proportion of new lending at very high DTI levels".
“Given this is likely to become a new binding constraint for many borrowers – in addition to higher living expenses – we're watching for potential easing here too,” he said.
He added that given ongoing expense verification (plus the expected rollout of CCR and debt-to-income loans), it's unlikely to reflate housing on its own.
That said, UBS has revised its forecast peak-to-trough drop in house prices to closer to -10 per cent, rather than -14 per cent; with home loans now troughing closer to -30 per cent, rather than our risk scenario of -40 per cent.
Also, on Tuesday, the Reserve Bank of Australia governor Philip Lowe signaled a possible rate cut in June in a speech in Brisbane.