I hadn’t paid much attention to the renewed wave of restrictive regulation of the housing finance market being imposed by the Governor of the Reserve Bank this year, but a journalist rang yesterday to talk about the latest proposal which prompted me to download and read the “consultative document” the Bank released last Friday.
Why the quote marks? Because quite evidently this is not about consultation at all, simply trying to do the bare minimum to jump through the legal hoops to allow the Governor to do whatever he wants. The document was released on Friday 3 September. The consultation period is a mere two weeks, which is bad enough. But then they tell people who might be inclined to submit that ‘we expect to release our final decision in late September’ – at most nine working days after submissions close – with the new rules to come into effect from 1 October. And if you were still in any doubt there is that line they love to use: “we expect banks to comply with the spirit of the new restrictions immediately”.
WIth that sort of urgency and disregard for any serious bow in the direction of consultation and reflection, you’d have to assume the Bank had a compelling case for urgent action, such that (for example) a delay of even as much as a month would pose an unendurable threat to the soundness and efficiency of the financial system (still the statutory purposes these regulatory powers are supposed to be exercised for). And since the Bank is quite open about the fact that the new restrictions will impede the efficiency of the system, you’d expect an overwhelming case for a soundness threat, complete with a careful analysis indicating that these new controls – directly affecting huge numbers of ordinary people – were the best, least inefficient, response.
But there is nothing of the sort. Instead they are actually at pains to stress that the financial system is sound at present, so the worry is about what might happen if things went on as they are. But that can’t possibly be an issue that rides on a one month, it must be something about several more years.
But even then their case amounts to very little. For example, they point that if house prices were to fall 20 per cent from current levels some $4 billion of lending would be to borrowers who would then have negative equity, But that is hardly news. The typical first-home buyer has always – at least in liberal financial systems – borrowed at least 80 per cent of the value of the home they are purchasing. It is usually sensible and rational for them to do so (indeed 90 per cent would often be sensible and prudent). So a fall of 20 per cent in house prices would always put a lot of recent borrowers into a negative equity position. Note, however, that (a) $4 billion is not much over 1 per cent of total housing lending, and (b) it is $4 billion of loans, not $4 billion of negative equity. If I borrowed 82 per cent of the value of the house, the house fell in value 20 per cent, and I lost my job and had to sell up, the loss to the bank might be not much more than 2 per cent of the loan.
More generally, in the entire document there appears to be not a single mention of the capital position of banks operating in New Zealand, or the Reserve Bank’s capital requirements. You might recall that New Zealand banks have some of the highest effective capital ratios anywhere in the advanced world, and that the Bank is putting in place a steady increase in those capital requirements. Moreover, if you read the Bank’s document – at least as a lay reader – you might miss entirely the point that the capital rules, and the internal models banks use, require more dollars of capital for higher risk loans than for lower risk loans. It is how the system is supposed to work. There are big buffers, those buffers are getting bigger (as per cent of risk-weighted assets), and the dollar amount of capital required rises automatically if banks are doing more higher-risk lending.
Of course, the Bank says a significant fall in house prices is more likely now. But we’ve heard that sort of line from every Reserve Bank Governor at one time or another over 30 years now. As it happens – and for what little it is worth – I happen to think house prices may be more likely to fall than to rise further over the next 12-18 months (even put a number consistent with that in the Roy Morgan survey when their pollster rang a few days ago), but I don’t back my hunch by using arbitrary regulatory restrictions that – on their own telling – will force many first home buyers back out of the market.
And it might all be more compelling if the Bank showed any sign of understanding the housing market. Thus, we are told (more or less correctly) that immigration is currently low (really negative) and lots of houses are being built. But, amazingly after all these years, there appears to be no substantive discussion of the land-use regulations and the land market more generally. Perhaps there will be something of a temporary “glut” in dwelling numbers – at current prices – but unless far-reaching changes are made to land-use rules that won’t change the basic regulatory underpinning for land prices. We know the government’s RMA reforms aren’t likely to help – may even worsen the situation – including because if these were credible reforms, the effect would be showing through in land prices now. And we know from the PM and Minister of Finance – and possibly the National Party too – that they don’t even want to do reforms that would materially lower house/land prices.
It all just has the feel of more action for action’s sake. Perhaps the government isn’t too keen on first-home buyers being squeezed out, but at least when they are criticised for not fixing the dysfunctional over-regulated housing/land market they can wave their hands and talk about all the things they and their agencies do, however ineffectual. As even the Bank notes, LVR restrictions don’t make much difference to prices for long. And if there is a compelling financial stability case, it isn’t made in this document – which, again, offers nothing remotely resembling a cost-benefit analysis for respondents to address. This despite bold – totally unsubstantiated – claims in the paper that their new controls would be beneficial for “medium-term economic performance”.
Then again, why would they bother with serious analysis when the whole thing is a faux-consultation anyway.
At which point in this post, I’m going to turn on a dime and come to the defence of both the Bank and the government. A couple of weeks ago the Listener magazine ran an impassioned piece by Arthur Grimes arguing that the amendment to the Reserve Bank Act in 2018 was a – perhaps even “the” – main factor in what had gone crazily wrong with house prices in the last few years. Conveniently, the article is now available on the Herald website where it sits under the heading “Government has caused housing crisis to become a catastrophe”.
Grimes was closely involved in the design of the 1989 Reserve Bank Act, and for a couple of years in the early 1990s was the Bank’s chief economist (and my boss). He left the Bank for some mix of private sector, research, and academic employment, but also spent some years on the Reserve Bank’s board – the largely toothless monitoring body that spent decades mostly providing cover for whoever was Governor. These days he is a professor of “wellbeing and public policy” at Victoria University.
However, whatever his credentials, his argument simply does not stack up, and given some of the valuable work he has done in the past, on land prices, it is remarkable that he is even making it.
There is quite a bit in the first half of the article that I totally agree with. High house prices are a public policy disaster and one which hurts most severely those at the bottom of the economic ladder, the young, the poor, the outsiders (including, disproportionately, Maori and Pacific populations). But then we get a story that house prices have been the outcome of the interaction between high net migration and housebuilding. As Arthur notes, immigration has hardly been a factor in the last 18 months (actually it has been negative, even if the SNZ 12/16 model has not yet caught up) and there has been quite a lot of housebuilding going on.
And yet in the entire article there is nothing – not a word – about the continuing pervasive land use restrictions (and only passing mention about the past). If new land on the fringes of our cities – often with very limited value in alternative uses – cannot easily be brought into development (if owners of such land are not competing with each other to be able to do so) there is no reason to suppose that even a temporary surge in building activity will make much difference to a sustainable price for house+land. Instead, any boost to demand will still just flow into higher prices.
Remarkably, in discussing the events of the last year there is also no mention of fiscal policy – the boost to demand that stems from a shift from a balanced budget just prior to Covid to one that, on Treasury’s own numbers, is a very large structural deficit this year.
Instead, on the Grimes telling the problem is a reversion to “Muldoonism” – not, note, the fiscal deficits, but the amendment to the statutory goal for the Reserve Bank’s monetary policy enacted almost three years ago now. Recall the new wording
The Bank, acting through the MPC, has the function of formulating a monetary policy directed to the economic objectives of—
(a) achieving and maintaining stability in the general level of prices over the medium term; and
(b) supporting maximum sustainable employment.
The main change being the addition of b).
Grimes has been staunchly opposed to that amendment from the start, but his assertion that it makes much difference to anything has never really stood up to close scrutiny. It has long had more of a sense about it of being aggrieved that a formulation he had been closely associated with had been changed.
He has never (at least that I’ve seen) engaged with (a) the Governor’s claim (which rings true to me) that the changed mandate had made no difference to how the Bank had set monetary policy during the Covid period, (b) the more generalised proposition (that the Governor is drawing on) that in the face of demand shocks a pure price stability mandate (and the RB’s was never pure) and an employment objective (or constraint) prompt exactly the same sort of policy response, or (c) the extent to which the New Zealand statutory goals remains (i) cleaner than those of many other advanced countries and yet (ii) substantially similar (as the respective central banks describe what they are doing) to the models in, notably, the United States and Australia. Similarly, he never engages with the straight inflation forecasts the Bank was publishing this time last year: if they believed those numbers, the purest of simple inflation targeting central banks would have been doing just what the RB did (and arguably more, given that the forecasts remained at/below the bottom of the target range for a protracted period).
Grimes seems to be running a line that the LSAP was the problem
The central culprit has been monetary policy that has flooded the economy with liquidity. This liquidity in turn has found its way into the housing market.
But there is just no credible story or data that backs up those claims. Banks simply weren’t (and aren’t) constrained by “liquidity”. The LSAP was financially risky performative display, but it made no material difference to any macro outcomes that matter, including house prices.
There is quite a lot of this sort of stuff.
Grimes ends on a better note, lamenting the refusal of governments – past and present – to contemplate substantially lower house prices, let alone take the steps that would bring them about (his final line “And no politician seems to care enough to do anything about it” is one I totally endorse). But in trying to argue a case that a change to the Reserve Bank Act – that had no impact on anything discernible as it went through Parliament or in its first year on the books – somehow explains our house price outcomes (especially in a world where many similar price rises are occurring, and where there was no change in central bank legislation), seems unsupported, and ends up largely serving the interests of the government, by distracting attention from the thing – land use deregulation – that really would make a marked difference and which the government absolutely refuses to do anything much about.