Within hours of the re-election in Australia of the sitting coalition Government led by Prime Minister Scott Morrison on Saturday, the first in what can be expected as a series of steps is underway to fight the falling property market.
In a double helping, borrowers will be allowed to apply for mortgages tens of thousands of Australian Dollars higher and borrowing rates are set to be cut by at least 0.25% from a base rate of 1.5%.
The regulator APRA (Australian Prudential Regulation Authority) has announced that it is to relax lending standards to lower the stress test borrowers face about their capacity to deal with interest rates as high as 7%.
This is designed to encourage higher debt and reverse the chilling decline in credit growth which is directly linked to falling market prices. The APRA rules, originally implemented in 2014, did not prevent overall private sector debt rising to in excess of twice Australian GDP, the market was just too hot. Until it wasn’t.
Under lending rules, banks are required to stress test repayment capacity based on a 2% buffer above the lending rate or 7% whichever is higher.
With the base rate at 1.5% normal mortgage lending rates are 4% so with banks likely to set their own minimum lending rates the game looks like it will move shortly from 7% to 5.75% This move comes at a time of highly elevated mortgage debt in a book where 40% are on interest only rates especially in the large buy-to-let sector, over a third of the mortgage stock.
The impact on weakened credit growth is however unclear. This is because of the shift away by banks from a controversial benchmark that guesstimates living expenses known as HEM (Household Expense Measure) to what borrows actually spend on lifestyles.
So, while the headline effect is to encourage applications for higher mortgage debt, the reality is that closer examination of capacity to service debt, coupled to an embedded expectation of falling prices, will still leave the market under pressure albeit at a lower rate.
Meanwhile, in what will be interpreted as a coordinated move, the Reserve Bank of Australia (RBA) has made the unusual announcement in advance of its June meeting that the base rate is on the menu. This is central bank language for a rate cut, most likely to start at 0.25%.
The RBA, managing a base rate of just 1.5%, doesn’t have much room for manoeuvre if things continue to deteriorate, not without resorting to unconventional measures.
The cut will keep pressure on the Australian dollar, import costs will feed into the economy and credit markets in particular will be sitting up taking note of these policy responses by looking at the underlying problem, the property market and the negative wealth effect from falling values.
The consumer response will be much like it was in Ireland when the Fianna Fail / PD coalition announced a reversal in stamp duty ahead of time, borrowers will delay applications. Higher lending offers means less cash down and less of a need to conceal equity debt, (quietly borrowing cash down is a common practice when prices run sky high).
But as reported here yesterday the Australian economy is vulnerable to a continuation of falls in property prices. Growing negative equity, rising nervousness in the narrative of the soft landing and general declines in discretionary spending are all pointing to a pressure cooker.
Under normal circumstances, these pressures would be enough to tip the hand of policymakers but these aren’t normal circumstances. This is because the game is being played on the mountain of private sector debt that chased the property boom up and now looks vulnerable.
The risk isn’t a short and shallow recession but the risk of a long drawn out structural recession because of the riskiness of the mortgage book and the vulnerability of the banking system but don’t expect anyone in officialdom to breathe it.
You can expect more measures if these fail.
This time is not different.