I’ve now read the Reserve Bank’s consultation document on the latest iteration of their ever-extending, but highly unpredictable, LVR restrictions, and also the issue of the Bulletin they released yesterday Financial stability risks from housing market cycles. Neither document seemed remotely convincing: just a series of the same old material, now twice-over lightly, that mostly doesn’t stand up to much scrutiny. It was particularly striking that in the Governor’s mad rush to put yet more controls on banks and yet more potential borrowers, he never stops to reflect on any lessons from the fact that this is the third iteration (the Third Coming, as Gareth Vaughan puts it) of these controls in less than three years. Does this not raise any questions in the Governor’s mind – or those holding him to account – about the Bank’s ability to set these sorts of controls effectively and provide a stable climate for private businesses and households?
But I’ve been tied up with other stuff today, and even on the Governor’s rushed timetable there are still a few days left to think harder about the Bank’s analysis. (It is noteworthy that, despite the Bank’s commitment only a few months ago to longer consultative period, there is no attempt in the consultative documents to make a case for why action is so urgent that the new – welcome – standard is just tossed out the window. Various critics suggest the Governor has bowed to political pressure, but I don’t believe that is the explanation).
So today I wanted to focus mostly, and quite briefly, on this table from the Bank’s consultative document. As the Bank itself puts it, this table summarises the discussion “through the lens of a cost-benefit analysis”.
It looks like no cost-benefit analysis I’ve ever seen. I could commend to the Governor and his staff The Treasury’s guide to undertaking cost-benefit analysis. Agencies simply cannot get away with calling a short list of possible costs and benefits, painted with the broadest possible brush and with not a number in sight, a cost-benefit “analysis”. How could anyone look at a table like this and conclude with any confidence that what the Governor is proposing is in the national interest? Perhaps he is right, but this table simply doesn’t show it.
Everyone knows there is a great deal of uncertainty about many of the possible costs and benefits, but one of the key arguments for disciplined numerical cost-benefit analysis is that it forces agencies to write down numbers, make the case for those numbers, and illustrate the sensitivity of the resulting bottom line to a reasonable range of alternative assumptions. Everyone knows bureaucrats and ministers game the system to help produce the outcomes they want, but the discipline of writing down the numbers is part of enabling others to scrutinize what is being proposed. As a reminder, this is a consultative document – a proposal for scrutiny and external comment – and the Governor is legally required to have regard to submissions that are made. The law isn’t supposed to allow the Governor to simply rule by decree.
It is also striking that nowhere in the document, or anywhere in the cost-benefit so-called “analysis” is there any sense of the distributional implications of the proposed policy. Who gains and who loses is often as important as the aggregate assessment of national costs and benefits? It isn’t clear that the Bank has given that any thought whatever. That shouldn’t be good enough: Treasury, the Board, and relevant parliamentary select committees should be questioning the Bank about the inadequacy of what it has rushed out yesterday.
What should be doubly disconcerting is that the Bank also shows no sign of having thought, in a disciplined way, about the distinction between private and social costs and benefits. For example, take the very first “benefit”. Loan losses are not a loss for the country as a whole, they are simply a redistribution of wealth among people within the economy. Banks might be glad to have lower loan losses at some future date, but then banks – private businesses accountable to their shareholders – are able to adjust their lending practices themselves. Indeed recent evidence – banks reining in, or cutting altogether, lending to offshore borrowers – illustrates that they do just that. What is that gives the Governor confidence that he is better able to make those judgements than the private businesses he is regulating? We simply aren’t told – even though this is his third attempt to get it right.
And why is a temporary reduction in house price inflation – the second “benefit” – a national gain. Again, it redistributes gains/losses among players in the economy – providing slightly cheaper entry levels in the near-term for those not directly affected by the controls, at the expense of those who are directly affected. How do we value this alleged “gain”, especially if the fundamental distortions in the housing market – yet more regulations – aren’t changed.
I could go on. There is, for example, no attempt to justify the proposition that it matters less if potential landlords are squeezed out of the market than if potential owner-occupiers are squeezed out. And from a financial system efficiency perspective one could reasonably argue that an upsurge of non-bank lenders would actually be a net gain, given that the controls are being put on at all. But in any case, there is not a single number in sight.
These are highly intrusive controls, being imposed in a sweeping manner, and there simply isn’t much to underpin them. Perhaps it won’t matter much to the Bank. After all, the Prime Minister, the Labour Party Finance spokesperson, and even the former leader of the ACT Party seem to be in favour. But citizens deserve much better quality policy formulation than what we have here.
I noted yesterday that it wasn’t clear quite why, even if one granted the need for some controls, we needed to effectively prohibit purchases of rental properties in places like Wanganui and Gisborne with LVRs above 60 per cent. I half-hoped the consultative document might shed some light, but no. Simply nothing.
As a reminder, real house prices in New Zealand as a whole are almost unchanged from the levels in 1987 – and since those in Auckland are so much higher, those in the rest of the country as a whole must be lower.
We didn’t have a domestic financial crisis after 2007. And I’m quite sure that anyone borrowing in those cities to the right of the chart, and anyone lending to them, is very conscious that house prices can go down as well as up. The case for this regulatory imposition just isn’t made.
As ever, if the Bank is determined to rush ahead and do something more (perhaps on the maxim that “something must be done by someone, and the Bank is ‘someone'”), the much less distortionary, and less knowledge-intensive, approach would be to increase capital requirements, either more generally or specifically on housing lending. Doing so would provide bigger buffers, at minimal cost to banks and borrowers (since the financing structure shouldn’t materially affect the overall cost of capital). The Governor talks complacently about longer-term reviews of capital requirements, but higher capital requirements could be imposed now. I doubt there is a good economic case for doing so, but it is much less bad case than what we’ve been presented with in this latest consultative document.
croaking cassandra 
Did they not have to do a RIS?
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common practice at the RB is only to do a RIS when the final decision is announced (rather than at the consultative stage) – and even then it isn’t taken very seriously (and the only internal scrutiny/review was by people from the same depts. that were promoting the change). They have a real aversion to quantitative CBAs, claiming it is all too hard and intangible.
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I would reckon that if an undergraduate student turned that in as a term paper on the housing market it would at best get a C-… its an awful document… rushed out while the Governor is rushing everyone into a corner in the hope of… well I’m not sure what he thinks the outcome will be…
Westpac have loudly announced they they have turned off the taps to investors with less than 40% deposit – maybe that is the right business decision, but it seems more that Westpac have handed management of their loan portfolio to the Reserve Bank. Why? It seems more like a political move rather than a business move…
Some have suggested that rents will go up… maybe, but its hard to know… its likely that the supply of rental properties will shrink so that might have some impact on rentals…
It bollocks… I can’t see why they are bothering with a so called consultation process at all.. it would be simpler and less insulting to just make a decree than go through to alleged process of consulting with the community on this load of tosh… Making a decree doesn’t excuse the behaviour at all, but that’s in effect what it is…
Muldoon is alive and well and running the Reserve Bank. God help is all….
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I always prefer the less provocative analogy of Walter Nash, but yes I take your point. At least Nash and Muldoon had gone out to the public and got elected to Parliament.
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Not old enough to remember Nash :-)…
And now I see David Hisco has piled on… Something about this smells….
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I think you mean 2007 rather than 1987.
That table is absurd. The bank is no longer independent. Its just a political player. Very concerning.
I cannot believe the lower right hand box. Any costs are dismissed out of hand. I would have thought the fact that residential investor rules are changing every 12 months might, in and of itself, lead to reduced appetite for investment. Similarly if this cools the “existing dwelling” market, that will surely feed directly into prices for new dwellings? How can they assume them to be separate markets? Effects on rents expected to be small? Surely that requires actual analysis?
Similarly is not the one and only benefit of relevance to the bank not there? i.e. reduced risk of financial instability? Do they not consider there to be a material benefit associated with financial stability from this regulation?
What is the benefit of “reduced amplification of a housing market downturn”. Isn’t one mans “amplification” anothers “market clearing”?
An area I am more familiar with is tranport. We used to have a quasi independent funder of transport projects in NZ (Transfund). That was gotten rid of, and now we have the NZTA happy to justify projects with low or negative net benefits based on any old specious argument. It seems the same thing has happened to the RBNZ.
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Oops yes – must be getting old.
I do stick up for the Bank from time to time (in a sort of way). I really don’t think Wheeler is driven by politics. I was only there for the first lot of LVR controls, but that was all Wheeler’s own doing – impulsive, impervious to (and uninterested in) counter-arguments, with a “just do it” mentality (which I’ve always reckoned was driven more by his kneejerk reaction to having lived in the US thru the crisis, but not thought at all about similarities and differences).
WIth hindsight, the Board made a very bad appointment to the role of Governor, and the legislation meant that it was far too easy for one man’s impulses to quickly translate into law, with few/no checks and balances. And sadly the internal culture responded to incentives – don’t question, don’t challenge, don’t even produce excellent analysis in support of the Governor’s whims, just get it done.
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Fair enough you will know better than me. But it does appear that this some of the policy is expressly political in its crafting eg the new construction exemption, the targeting of investors vs owner occupiers. Also it does seem coincidental in the fact they have moved after so much government urging (which itself has been fairly disgraceful).
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yes, the construction exemption was largely political – an enormous amount of pressure on the Bank from Tsy and MBIE after the first LVR limits were imposed, presumably in tunr reflecting pressure from those departments’ masters. I think what is truer is that Wheeler likes to think of himself as one of the “government team” – not in obeying instructions, but equally not just focused on financial system soundness and efficiency (his own statutory criteria)
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At 10% LVR there was some logic with prudence and caution to be shown in perhaps preventing 1st time buyers from taking undue risk, but at 20% LVR those arguments can not be brought to the table. The increase seems like a knee jerk reaction, and punitive action too, against the group that are already the most disadvantaged by high house prices. Further, if the cause of high house prices were correlated closely to first time buyers, then the very strong first round of restrictions would most likely have caused a healthy house price correction. After the 1st round failure, no investigation, or honesty towards the true causes of the tumorous house prices bubble has been made.
I think that 1st time buyers should and will feel embittered towards RBNZ for destroying their very normal dreams of home ownership. A dream that the wonders of modern technology, innovation, and improved efficiencies has actually made cheaper to realise than ever before in the history of mankind. With power tools, vans, lorries, cranes, diggers, advanced materials, and advanced manufacture the innovators of this world have made it cheaper, yes cheaper, with regards to effort to build the houses of today.
What may I ask have the politico and the money men done, in the age of quick and easy building? They have tied the process up, first in red tape, then in green tape. They have taxed us up, taking away from Peter to give to Paul and there mate Joe Industries. They have opened the taps of monitory supply expansion and diluted our savings. And now they go hunting 1st time buyers like it was some sport, shooting at them with long bows.
(P) Price accelerator – monetary supply expansion & low interest rates
(R) Response Impedance – building restrictions/land restrictions/tax and fees
(F) Fuel – population growth aka immigration
(I) Innovation – reduced man effort to build
Future House price = (current house price)*P*R*F^2 – I
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Your future house price model need some more variables – mainly the dwelling density or number of people per dwelling… if this rises it can absorb quite a lot of the ‘fuel’… and this has been happening in Auckland – the other variable is space per dwelling – if people are building bigger dwellings then the cost per occupant increases – which drives prices upward…
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I totally agree with you that building, which is easer now than it ever has been, can use up a lot of fuel. Hence my variable Response Impedance to highlight that fact that the natural response is not happening. Innovators have made it faster and easier to build. This is especially true with high-rises that are slowly being built up in Auckland.
The other variables of space per dwelling, are all wrapped into the Response Impedance as far as my model goes. The aim of which is to keep it simple and highlight the fact that without P, R, and F houses prices like all consumer goods would be falling. Whole houses can be printed now. Robots brick layers, are working. The man effort needed to build a housing is plummeting. Hence the importance of P,R, and F to drown out the innovative productivity improvements made.
“If people are building bigger dwellings then the cost per occupant increases – which drives prices upward”
I only agree with the first half of your last statement, not the conclusion. As people only build bigger dwellings if they can afford them. If the can’t they build smaller dwellings. There is no driving of prices going on there.
Further with modern innovations and technology larger buildings can be built with the same money as a smaller one was made for in the past.
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I was discussing the RBNZ’s seemingly shallow and knee-jerk responses to date with a fellow traveller as we flew across the ditch last week and he had a novel solution to at least address the demand side.
1. Increase capital ratios for insurers for their book of rental properties – to make the premium more expensive and get at demand that way. Apparently this could be addressed through the RBNZ macro-prudential supervision of insurance companies. As Banks require all owners to provide insurance details when advancing a mortgage and any sane investor won’t not insure their house all investment property would be caught – I imagine there’s evidence that the insurance risk is higher for tenanted vs owner occupied property so there’s an economic argument in favour.
2. and this is interesting. Start to move government agencies that have no specific business need to be headquartered in Auckland – it would move high(er) salaried people to the regions and perhaps knock the froth off demand. Excellent regional development options arise.
Examples – as starter for 10 – Serious Fraud Office, FMA, Navy (good move to Whangarei – deeper water, improved security as not part of downtown Auckland, easier to recruit locally, staff can live adjacent to the base (priced out of Devonport already by high house costs and rapidly rising rents once Ngati Whatua took over the rental stock)). TVNZ – good site in Dunedin with the world leading wild life studios. As TVNZ is studio based there’s no need to have the headquarters in Auckland on a premium site.
Similarly for any other SOE’s which are not Auckland centric in terms of business requirements.
etc.
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