The Problem Of Introducers, and HEM

The Banking Royal Commission has already cast a spotlight on so called Introducer Programmes, which allows professionals like lawyers, accountants and even real estate agents to be rewarded for flagging a potential mortgage lead to a bank. They are paid if the lead is converted by the bank.

As they are not providing financial advice, there is no formal regulation, only “professional” standards that they should disclose any financial reward for such activities. But how many do?  Would you know?

This is, to put it mildly, a black hole. NAB showed that between 2013 and 2016 its introducer program brought in mortgages worth $24 billion, while paying out around $100 million in commissions to its introducers, or about 0.4%. Given that mortgage brokers get around 0.68% plus a trail, for doing significant work to steer an application through, introducers get money for old rope.

ASIC already highlighted this practice during evidence to the Productivity Commission review into Financial Services.  An ASIC representative emphasised that although there is an exemption within the law for referrers, he noted that there is now “a fairly large industry of referrers comprising professionals, lawyers, accountants and advisers who do directly refer consumers to particular lender[s]” and that the commissions paid to these referrers “can be quite significant.

Disclosure needs to be tightened, and I question whether there is a role for such introduces at all.

Separately at the RC, we learnt that the banks are talking about adopting an updated HEM (the Melbourne Institute based benchmark). “The Household Expenditure Measure (HEM) is a measure that reflects a modest level of weekly household expenditure for various types of families. The Melbourne Institute produces the quarterly HEM report which is distributed through RFi Roundtables”.

The HEM is used to benchmark household expenditure as part of a loan application, and it looks like revisions will hit later in the year. But the RC probed whether there was a first mover disadvantage (as the metrics would lead to less ability to lend) and whether this is why there was an industry led coordinated approach.

Does the fact that there is an industry panel trying to deal with this motivate it, in part, by the avoidance of first mover penalty?—No. Well, that certainly wasn’t the motivation to set up the working group. It is something that has been discussed though, is with a number of changes coming this year in terms of uplifting serviceability standards, such as comprehensive credit, changes to HEM and new 25 measures such as debt to income ratios, it has been something discussed around the first mover disadvantage.

I wonder if the ACCC would have a view?

The RC also probed whether the HEM adequately reflected true levels of expenditure, as it was based on  a “modest” lifestyle.

The story continues….

The RBA On Household Indebtedness and Mortgage Stress

Michele Bullock, Assistant Governor (Financial System), spoke at the Responsible Lending and Borrowing Summit.  She downplayed the financial stress in the system and concluded “while there are some pockets of financial stress, the overall level of stress among mortgaged households remains relatively low”. Of course, our own mortgage stress surveys tells a different story, but it does depend on definitions.

Four quick points to note. First, the RBA continues to rely on HILDA data from 2016, despite the changes in living costs, mortgage rates and flat incomes since then. They refer to more timely private datasets, but do not use them, because of “different methodologies.”

Next, she acknowledge that high household debt will be a consideration in terms of interest rate policy, as highly in debt households will be an economic drag on consumption. If debt is considered low, this leaves the door open to rate rises, sooner rather than later.

Third, she perpetuates the view that financial stress is highest among lower income households, but sees little evidence of difficulty among more affluent groups, and argues that many are well ahead with their mortgage repayments.  We agree some are, but many more affluent households are also feeling the pinch!

Finally, she is of the view that of households with interest only loans coming up for review, those at risk of not being able to afford a P&I reset, and fall outside current lending standards is quite small (though need watching). That said she highlights risks in the investor portfolios. ” Indeed, the macro-financial risks are potentially heightened with investor lending”. We agree, this is 36% of the portfolio!

So, her conclusion is, move along, nothing to see here!  We think the financial stress story is more significant, but there is no authoritative official data covering this topic. Surely a gap the RBA needs to close! Especially if home prices momentum continues to sag.

Thank you for the opportunity to be here today. The title of the summit, ‘Responsible Lending and Borrowing – Risk, Responsibility and Reputation’, really struck a chord with me because there has been much discussion over the past few years about housing prices and the increasing debt being taken on by the household sector.

The Reserve Bank’s interest in this area springs from both its responsibility for monetary policy and its mandate for financial stability. From the perspective of monetary policy, high debt levels will influence the calibration of interest rate changes. The more debt households have, the more sensitive their cash flow, and hence consumption, is likely to be to a rise in interest rates. Households with higher debt levels may also sharply curtail their consumption in response to an adverse shock such as rising unemployment or large falls in house prices, amplifying any economic downturn. My focus today, however, is on the potential risks to financial stability from this build up in debt. One of the key issues we have been focusing on is the extent to which rising household debt might presage stress in household budgets, with flow on effects to financial stability and ultimately to the economy. There has been a lot said and written about this issue in recent times, using a multitude of data sources and anecdotes. What I hope to do today is to put this information into some context to provide a balanced view on the current and prospective levels of household financial stress, and hence the implications for financial stability.

I want to make a couple of points at the outset. The first is that there are clearly households in Australia at the moment that are experiencing financial stress. By focusing on whether financial stress has implications for financial stability, I am not in any way playing down the difficulties some households are experiencing. There is a very real human cost of financial stress.

Second, some of the most financially stressed households are those with lower incomes which typically rent rather than borrow to buy a home. Access to suitable affordable housing for this group is clearly an important social issue. But given the topic of this summit and the potential link to financial stability, I am going to focus in this talk on household mortgage debt and the potential for financial stress resulting from this.

What is Financial Stress?

Definitions of financial stress are many and varied. One definition could be where a household fails to pay its bills or scheduled debt repayments on time because of a shortage of money. This is quite narrow – it captures only those households for which stress has already manifested in missed payments. A much broader definition of financial stress might be a situation where financial pressures are causing an individual to worry about their finances, or where an individual cannot afford ‘necessities’. These definitions might be good leading indicators of failures to meet debt repayments or defaults. So there is a role for a variety of indicators of stress.

One way of thinking about financial stress is in terms of a spectrum or a pyramid, running from mild stress to severe stress (Graph 1). At the mild end, the base of the pyramid, people may perceive that they are financially stressed when they have to cut back on some discretionary expenditure, such as a holiday or a regular meal out. Slightly further up the pyramid, they may not be able to pay bills on time, or might have to seek emergency funding from family. At the top of the pyramid – severe financial stress – a household might be unable to meet mortgage repayments or ultimately be facing foreclosure or bankruptcy.

Graph 1
Graph 1: Spectrum of Financial Stress

The pyramid is wider at the bottom than the top reflecting the fact that there will always be more households in milder stress than in severe stress. For some households experiencing milder stress their circumstances might deteriorate and they will move to a more severe form of financial stress. But some others might continue to restrain spending on discretionary items so as to meet essential payments. Others might experience a change in circumstances that improves their financial position.

Triggers and Protections from Financial Stress

Most people don’t consciously set out to put themselves in a position of financial stress. Sometimes people might choose to stretch themselves initially in taking out a loan, perhaps even putting themselves into mild, temporary financial stress. But they would typically be doing so on the expectation that it will become more manageable over time as their income rises. More serious financial stress often only comes about by a combination of what turns out to be excessive debt and changed circumstances. A level of mortgage debt that looked manageable when it was taken out might become unmanageable if, for example, the primary income earner of a household becomes unemployed. Or if life circumstances change, such as through ill health, the birth of a child or breakdown of a relationship.

So what do conditions in the housing sector over the past few years suggest about the potential for financial stress? You are all familiar with the broad story. House prices have been rising rapidly, particularly in Sydney and Melbourne. At the same time, household mortgage debt has been rising while incomes have been growing relatively slowly. As a result, the average household mortgage debt-to-income ratio has risen from around 120 per cent in 2012 to around 140 per cent at the end of 2017 (Graph 2, left panel). Furthermore, the increasing popularity of interest-only loans over recent years meant that by early 2017, 40 per cent of the debt did not require principal repayments (Graph 3). A particularly large share of property investors has chosen interest-only loans because of the tax incentives, although some owner-occupiers have also not been paying down principal. This presents a potential source of financial stress if a household’s circumstances were to take a negative turn.

Graph 2
Graph 2: Household Mortgage Debt Indicators
Graph 3
Graph 3: Interest-only Housing Loans

This is where lending standards come in. There is always a balance to be struck with lending standards. If they are too tight, access to credit will be unreasonably constrained, potentially impacting economic activity and restricting some households from making large purchases that they can afford. If they are too loose, however, borrowers and lenders could find risks building on their balance sheets which, if large enough, might have implications for financial stability. Over the past few years in Australia, regulators have been concerned that lending standards have erred on the more relaxed side. An exuberant housing market in some parts of the country and strong competition among lenders raised the question of whether financial institutions had been appropriately prudent in assessing a household’s ability to meet repayments.

In response, a number of measures were implemented by APRA and ASIC to strengthen mortgage lending standards. These measures have helped improve the quality of lending over the past couple of years. But there is still a large stock of housing debt out there, some of which probably would not meet the more conservative lending standards currently being imposed. How large a risk does this pose to financial stability? It depends on a number of things, including how lax the previous lending standards were, how much of the stock was lent under less prudent standards and the repayment patterns of borrowers. One way of assessing the risk though is to look at the level and trajectory of mortgage stress.

Measures of Financial Stress

There is no single measure that captures the level of financial stress. There are comprehensive surveys, such as the survey of Household, Income and Labour Dynamics in Australia (HILDA) and the Survey of Income and Housing (SIH), that are methodologically robust, but are only available with a lag. A number of private sector surveys are more timely but it can be harder to assess whether their methodologies are well focused on financial stress. There is also information on non-performing loans, insolvencies and property repossessions that is fairly timely and reliable, but is only an indicator of pretty severe stress. I am going to talk through a few measures and see what they imply about the current level of mortgage stress among Australian households.

Let’s start with some high-level data on debt and debt servicing. As I noted above, the average household mortgage debt-to-income ratio has been rising over recent years. In a sense, this is not really surprising. With historically low interest rates, households have been able to service higher levels of debt. Indeed, the debt-servicing ratio (defined as the scheduled principal and interest mortgage repayments to income ratio) has remained fairly steady at around 10 per cent despite the rise in debt (Graph 2, right panel). But these are averages. It is important to look at the distribution of this debt – are the people holding it likely to be able to service it?

Graph 4
Graph 4: Household Indebtedness

The HILDA survey provides information on the distribution of household indebtedness and debt servicing as a share of disposable income. Looking only at owner-occupier households that have mortgage debt, the survey suggests that the median housing debt-to-income ratio has risen steadily over the past decade to around 250 per cent in 2016 (Graph 4, left panel).[1] However, the median ratio of mortgage servicing payments to income has been fairly stable through time, remaining around 20 per cent in 2016 (Graph 4, right panel). In fact 75 per cent of households with owner-occupier debt had mortgage payments of 30 per cent or less of income, which is often used as a rough indicator of the limit for a sustainable level of mortgage repayments.[2] This suggests that, as recently as 2016, mortgage repayments were not at levels that would indicate an unusual or high level of financial stress for most owner-occupiers. But there is a significant minority for whom mortgage stress might be an issue.

Other data sources suggest that the number of households experiencing mortgage stress has fallen over the past decade. The Census data show that the share of indebted owner-occupier households for which actual mortgage payments (that is, required and voluntary payments) were at or above 30 per cent of their gross income declined from 28 per cent in 2011 to around 20 per cent in 2016. And the 2015/16 Household Expenditure Survey indicates that the number of households experiencing financial stress has steadily fallen since the mid 2000s.

Furthermore, a large proportion of indebted owner-occupier households are ahead on their mortgage repayments. We have highlighted this point in recent Financial Stability Reviews. Total household mortgage buffers – including balances in offset accounts and redraw facilities – have been rising over the past few years as households have taken advantage of falling interest rates to pay down debt faster than required. In 2017, total owner-occupier buffers were around 19 per cent of outstanding loan balances or around 2 ½ years of scheduled repayments at current interest rates (Graph 5, left panel)). There is some variation in buffers. While one-third of outstanding owner-occupier mortgages had at least two years’ buffer, around one-quarter had less than one month (Graph 5, right panel). Not all of these loans, however, are necessarily vulnerable to financial stress. If households are building up other assets instead of building up mortgage buffers, they may still be well positioned to weather any change in circumstances.

Graph 5
Graph 5: Household Mortgage Buffers


All of this suggests that a large proportion of households have some protection against financial stress. There are, however, some households that are more vulnerable, probably those with lower income who cannot afford prepayments or those with relatively new mortgages who have yet to make many inroads.

Another way of measuring financial stress is by asking survey respondents to self-assess. For example, a survey might ask about the respondent’s ability to meet payments, the type of financial stress they have experienced, or whether they have had difficulty raising money in an emergency.

The HILDA survey also provides some information on this. In general, measures such as these indicate that financial stress for owner-occupiers with mortgage debt has not changed much over the past decade, and is actually lower than in the early 2000s. Around 12 per cent of such households indicated that they would expect difficulty raising funds in an emergency in 2016 (Graph 6). The survey also asks people what sort of financial difficulties they had experienced over the past twelve months. For example, did they have difficulty paying a mortgage or bills on time? Were they unable to heat their home or did they have to go without meals? Did they have to ask for financial assistance from family or a welfare agency? A bit less than 20 percent of owner-occupier households said they had experienced at least one difficulty in the past 12 months, but only 5 per cent reported experiencing three or more of these difficulties. Most of these indicators also suggest that, in line with some of the earlier data I noted, stress has declined since 2011, which probably largely reflects the fall in interest rates since that time.

Graph 6
Graph 6: Incidence of Financial Stress


Unfortunately, while the HILDA and SIH data are rich in terms of the information provided, they are not very timely. We have, for example, only just received the 2016 data. So much of the discussion on household stress relies on more timely private surveys. These surveys measure stress in different ways. Some focus specifically on mortgage stress. Others look at housing affordability, including for renters. And still others attempt to measure financial ‘comfort’ more broadly than just housing. Many of these suggest that housing stress has been increasing over the past year or so.

Looking at the history for which we have data for both the private and comprehensive surveys, it is a little difficult to reconcile their findings. But there do seem to be some methodological differences that mean some surveys might overstate financial stress somewhat. For example, in some of these surveys, self-assessed living expenses are used. If households include discretionary expenditure that could be cut back in an emergency, the amount of income available to meet scheduled repayments might be understated. Furthermore, if actual mortgage repayments are used, those households that are routinely ahead of their payments schedule might be assessed as having little spare income for emergencies when in reality they have been building up buffers and have surplus cash flow.

Most of the measures I have discussed so far are more in the nature of potential financial stress. For some households this will likely turn out to be temporary until their circumstances change. But others may find themselves in a prolonged period of belt tightening or, in the extreme, having to sell their property or default on their payments. In this latter case, financial stress will show up in non-performing loans on banks’ balance sheets and perhaps even in property repossessions or bankruptcies. What do these data tell us?

Banks’ non-performing housing loans have been trending upwards over the past few years, although they remain very low in absolute terms at around 0.8 per cent of banks’ domestic housing loan books (Graph 7). Much of this rise is attributable to a rise in non-performing loans in the mining-exposed states of Western Australia and Queensland – not unexpected given the large falls in employment and housing prices in some of these regions.

Graph 7
Graph 7: Bank's Non-performing Housing Loans

Personal insolvencies as a share of the population have remained fairly stable over the past few years. Applications for property possession as a share of the total dwelling stock have generally declined since 2010, with the exception being Western Australia (Graph 8). This indicates that financial stress has a high cyclical component, and there are likely to be some regions of the country that are in more difficult times than others. But the focus for financial stability considerations is largely a national rather than a regional perspective.

Graph 8
Graph 8: Applications for Property Possession


So my overall interpretation of these myriad pieces of information is that, while debt levels are relatively high, and there are owner-occupier households that are experiencing some financial stress, this group is not currently growing rapidly. This suggests that the risks to financial institutions and financial stability more broadly from household mortgage stress are not particularly acute at the moment.

Housing Investors

Most of my focus so far has been on owner-occupiers who account for around two-thirds of housing debt outstanding. But investment in housing has been growing strongly in recent years. So it is worth briefly considering the risk of financial stress emanating from this group of borrowers.

The risks to financial stability associated with investor mortgage debt are probably a bit different from those associated with owner-occupier debt. Investors tend to have larger deposits, and hence lower starting loan-to-valuation-ratios (LVRs) (Graph 9). They often have other assets, such as an owner-occupied home, and also earn rental income. Higher-income taxpayers are more likely to own investment properties than those on lower incomes, so may be better able to absorb income or interest rate shocks.

Graph 9
Graph 9: ADI's High LVR Loans


But investors have less incentive than owner-occupiers to pay down their debt. As noted above, many take out interest-only loans so that their debt does not decline over time. If housing prices were to fall substantially, therefore, such borrowers might find themselves in a position of negative equity more quickly than borrowers with an equivalent starting LVR that had paid down some principal. Indeed, the macro-financial risks are potentially heightened with investor lending. For example, since it is not their home, investors might be more inclined to sell investment properties in an environment of falling house prices in order to minimise capital losses. This might exacerbate the fall in prices, impacting the housing wealth of all home owners. As investors purchase more new dwellings than owner-occupiers, they might also exacerbate the housing construction cycle, making it prone to periods of oversupply and having a knock on effect to developers.

Data from the Australian Taxation Office (ATO) provide some information on housing investors. While not particularly timely, these data show that the share of taxpayers who are property investors has increased steadily over the past few years. In 2014/15, around 11 per cent of the adult population, or just over 2 million people, had at least one investment property and around 80 per cent of those were geared (Graph 10). Most of those investors own just one investment property but an increasing number own multiple properties. There has also been a marked increase in the share of geared housing investors who are over 60. These factors do not necessarily increase the risk of financial stress but they bear watching.

Graph 10
Graph 10: Property Investors


The recent increases in interest rates on investor loans, in response to APRA’s measures to reduce the growth in investor lending, has probably affected the cash flows of investors. Interest rates on outstanding variable-rate interest-only loans to investors have increased by 60 basis points since late 2016. However, over the past few years, lenders have been assessing borrowers’ ability to service the loan at a minimum interest rate of at least 7 per cent. So while interest rates and required repayments have likely risen, many borrowers should be relatively resilient to the recent changes.

Furthermore, a large proportion of interest-only loans are due to expire between 2018 and 2022. Some borrowers in this situation will simply move to principal and interest repayments as originally contracted. Others may choose to extend the interest-free period, provided that they meet the current lending standards. There may, however, be some borrowers that do not meet current lending standards for extending their interest-only repayments but would find the step-up to principal and interest repayments difficult to manage. This third group might find themselves in some financial stress. While we think this is a relatively small proportion of borrowers, it will be an area to watch.


The historically high levels of mortgage debt in Australia raises questions about the resilience of household balance sheets to a change in circumstances and the ability of the financial system to absorb a widespread increase in household financial stress. The information we have suggests that, while there are some pockets of financial stress, the overall level of stress among mortgaged households remains relatively low. Furthermore, the banking system is strong and well capitalised, and is supported by prudent lending standards. The risks to financial stability from this source therefore remain low although we will need to keep an eye on developments. Appropriately prudent lending standards will continue to play an important role in ensuring that the financial system remains stable and households borrow responsibly.

How Resilient Will Consumption Growth Be If Income Growth Stays Weak?

RBA Assistant Governor (Economic) Luci Ellis spoke at the ABE ConferenceThree Questions About the Outlook“.

The section on the impact of weak income growth is significant, because it examines why households are under financial pressure, and the impact of this.  She says “continued weak income growth presents a particular risk to the consumption outlook in the context of high household indebtedness”.

One aspect of recent developments where Australia’s experience differs, though, relates to household income and consumption. As we discussed in the Statement, consumption growth in the major advanced economies has been quite robust, supported by strong growth in employment. In Australia, we’ve also had especially strong employment growth over the past year – more than double the rate of growth in the working-age population. But that hasn’t translated into strong consumption growth. Household income growth has been weak for a number of years, and that has weighed on consumption growth (Graph 4). Consumption growth hasn’t slowed as much as income growth. This is what you’d expect, given that households generally try to smooth their consumption through episodes of income volatility. But there’s a real question of how long that could continue if income growth stays weak. This clearly has implications for how we think about the risks to our consumption forecasts.

Graph 4
Graph 4: Household Consumption and Income


The weakness in incomes goes beyond the downward pressure on wage growth that I’ve already spoken about. Yes, growth in the wage price index (WPI) has stepped down. But the WPI captures a fixed pool of jobs. It abstracts from compositional change. Average earnings as measured in the national accounts have been even weaker than the WPI (Graph 5). This has not occurred because workers shifted between industries; it is also seen within industries. It might be partly driven by the end of the mining investment boom, as workers moved out of mining-related work, including in the construction and business services industries. But it seems to have been broader than that. Our central forecast is that this weakness will end as the drag from the end of the boom dissipates and spare capacity is absorbed, such that average earnings growth recovers. There is no guarantee of this, though, and therein lies the risk.

Graph 5
Graph 5: WPI and AENA by Sector


The living cost pressures that many households feel have therefore been an income story, not a price inflation story. Although utilities prices did increase significantly in some states in recent quarters, much of households’ regular spending has seen relatively little in the way of price increases for a number of years.

Weak income growth can run below consumption growth for a time, but not forever. If households start to see this weakness in income growth as permanent, they are likely to change their spending patterns in response. We might be seeing this in the details of the consumption figures: growth in spending on discretionary items, like travel and eating out, has slowed while growth in spending on essentials has held up (Graph 6).

Graph 6
Graph 6: Household Consumption


Continued weak income growth presents a particular risk to the consumption outlook in the context of high household indebtedness. Households do not just wake up one day and collectively decide to pay down their debt. But if incomes turn out weaker than they expect, or some other adverse news should arise, the households carrying the most debt might feel they have to rein in their spending quite a bit.


Financial Stress is Increasing in Australia as Cost of Living Pressures Mount

After the ME Bank Survey, and our Household Finance Confidence Index both showed the financial pain many households are in; now National Australia Bank’s (NAB) latest Consumer Behaviour Survey, shows the degree of anxiety being caused by not only cost of living pressures but also health, job security, retirement funding as well as Australian politics.

From NAB and Business Insider.

Of all the things bothering Australian households in early 2018, nothing surpasses cost of living pressures.

Source: NAB

From the National Australia Bank’s (NAB) latest Consumer Behaviour Survey, it shows the degree of anxiety being caused by not only cost of living pressures but also health, job security, retirement funding as well as Australian politics.

The higher the reading, the more anxious it is making Australians.

Somewhat surprisingly, it was not the gaggle in Canberra that caused the most anxiety for households in the latest survey, but rather persistent concerns surrounding living expenses.

“[The index] was basically unchanged in Q4 2017 at near survey lows with job security causing Australians the least stress, consistent with a strongly improving labour market,” said Alan Oster, NAB Group Chief Economist.

“That said, the cost of living is still weighing most heavily on them, highlighting the disconnect between low levels of economy-wide inflation and consumer focused costs.”

That was reflected in the detail of the latest survey, revealing some alarming statistics as to just how many Australians are struggling at present.

It found around two in five Australians suffered some form of financial hardship over the survey period, especially among lower-income earners.

Over 50% of low income earners reported some form of hardship, with almost one in two 18 to 49-year-olds being effected.

As seen in the chart below, after a steady improvement in late 2016 and early 2017, those reporting financial hardship have increased in recent quarters, coinciding with steep increases in gas and electricity charges for many Australian households.

Source: NAB

“Being unable to pay a bill was the most common cause,” the NAB said, adding this came in at over 20%.

“Not having enough for food and basic necessities was next, impacting one in three low income earners.”

Some 18% of respondents reported not having enough for food and basic necessities in the latest survey.

Source: NAB

Nearly half of those consumers also reported they were “extremely” concerned about their current financial position, nominating paying their utility bills as the biggest impact on their financial position.

Source: NAB

“While consumers told us they were a little less concerned about their household’s current financial position in Q4, being unable to pay a bill — particularly utilities — continues to have by far the biggest impact on those households most concerned about their finances,” Oster said.

With cost of living pressures still creating anxiety among households, the NAB asked respondents how much extra income they would need to alleviate those concerns.

In short, a lot, especially for those in the big capital cities and households with children.

“On average, consumers told us they need an extra $207 a week – or $10,764 per year,” Oster said, adding that “this varied according to where we live, our income, gender and family status”.

“It ranged from $221 in New South Wales and the ACT to $132 in Tasmania, and from $214 in capital cities to $186 in rural areas.

“Consumers with children need $258 and those without $191”.

Source: NAB


While Oster admits that how consumers “feel” doesn’t necessarily correlate with how they really spend, it underlines the point that many Australians think they’re getting squeezed financially.

If it wasn’t already apparent, this likely ensure the next federal election campaign will be centred around alleviating the perceived cost of living pressures facing many Australian households.

Dick Smith on Australian Debt

Dick Smith Fair Go (DSFG) has published a paper on Australian Debt, written in an easy to read form – Australia’s Debt: an Honest Debate.”

The document walks through the various types of debt, and homes in on household debt as the biggest risk to our economic future, despite the political football that public debt has become. They discuss high household debt levels, the inflated housing sector, banks which are too big to fail and the risks from interest rate rises. All themes which those who follow the DFA blog will find only too familiar.

There are plenty of people who’ve bought into the frenzy, borrowed to the hilt, and given themselves little room to move in the event of a rise in interest rates.

In the 1990s when mortgage interest rates peaked at 17%, lots of typical Australians lost everything.  It could happen again, and interest rates don’t need to go anywhere near as high to start causing financial strife.

Work by the Grattan Institute shows that if interest rates went up just 2 percentage points, stress levels would be the highest on record but for that 1990s 17% squeeze.

If this were to happen while wages growth remains as flat as it’s been, borrowers might not be able to afford their loan repayments. When this happens en-mass it puts our banks in dire straits.

Higher loan costs would lead to less spending, which would affect employment rates, hit the government’s budget, and plunge us into a recession.

The paper also makes the link to high migration.

There is one final aspect of Australia’s debt debate that is rarely discussed and not widely understood: the link between the federal government’s 200,000 strong ‘Big Australia’ immigration program and private debt.

The lion’s share of Australia’s export revenue comes from commodities and from Western Australia and Queensland. But the majority of Australia’s imports and indeed private debt flows to our biggest states (and cities), New South Wales (Sydney) and Victoria (Melbourne). Sydney and Melbourne also happen to be the key magnets for migrants.

Increasing the number of people via mass immigration does not materially boost Australia’s exports but does significantly increase imports (think flat screen TVs, imported cars, etc). These imports must be paid for – either by accumulating foreign debt, or by selling-off the nation’s assets. We’ve been doing both.

So basically high immigration is affecting the trade balance via more people coming in each year (mostly to Sydney and Melbourne) because of the additional imports purchased, as well as driving Australia’s external vulnerability via the build-up in non-productive private debt.

And ends in a simple conclusion:

After the claims propagated by the Howard debt truck of 1996, the county’s debt load is now the highest it has ever been.

When they are in opposition the major political parties are keen to simplify and weaponise the idea of debt in the political battle against their opponents – but when they’re in power there’s suddenly a difference between good debt and bad debt.

While it may be more politically astute to focus on the government debt (because they can more easily blame their opponents for it), it will be better for the country if the Australian people, the voters, are informed that it’s private and household debt that is most likely going to cause major problems in the future and that our record high immigration-fuelled population growth is making the problem worse.

To put it simply, we need to live within our means!



Irresponsible Mortgage Lending A Significant Risk For Seniors


Surging property prices in Australia’s capital cities can be attributed to irresponsible lending, but it’s not just young buyers suffering the consequences, a consumer organisation has said.

In its submission to the royal commission into Misconduct in the Banking, Superannuation and Finance sector, the not-for-profit consumer organisation, the Consumer Action Law Centre (CALC) said the number of Aussie households facing mortgage stress has “soared” nearly 20 per cent in the last six months, and argued that lenders are to blame.

Referencing Digital Finance Analytics’ prediction that homes facing mortgage stress will top 1 million by 2019, CALC said older Australians are at particular risk.

The organisation explained: “Irresponsible mortgage lending can have severe consequences, including the loss of the security of a home.

“Consumer Action’s experience is that older people are at significant risk, particularly where they agree to mortgage or refinance their home for the benefit of third parties. This can be family members or someone who holds their trust.”

Continuing, CALC said a “common situation” features adult children persuading an older relative to enter into a loan contract as the borrower, assuring them that they will execute all the repayments.

“[However] the lack of appropriate inquiries into the suitability of a loan only comes to light when the adult child defaults on loan repayments and the bank commences proceedings for possession of the loan in order to discharge the debt,” CALC said.

The centre referred to a Financial Ombudsman Service (FOS) case study in which retiree and pensioner, Anne, entered into a loan contract with her son Brian. The repayments were to be made out of Brian’s salary and Anne’s pension. The loan was requested in order to extend her home so that Brian could live with her.

Following loan approval, the lender provided more advances under the loan contract. The advances were used to pay off Brian’s credit debt and buy a car.

When Brian left his job to travel, Anne could no longer afford the repayments and the lender said it would repossess her home.

“Anne lodged a dispute with FOS. After considering the dispute, FOS concluded that Anne was appropriately a co-debtor in the original loan contract, as she had received a direct benefit from the loan (the extension to her home and therefore an increase in its value),” CALC said.

“However, FOS considered that she was not liable for the further advances as she did not directly benefit from the application of the funds. Even though the repayment of Brian’s credit card debts may have provided more towards the household income, FOS concluded that this was not a direct benefit to Anne.

“Neither was the purchase of a car for Brian, as there was no information to show that Anne used the car or relied on Brian to transport her.”

CALC also expressed concern that the Household Expenditure Measure (HEM) is not a robust enough living expense test.

Noting that the Australian Prudential Regulation Authority shares their concern, the centre said the reliance on the HEM test raises concerns about the robustness of the actual measure.

“APRA states that it has concerns about whether these benchmarks provide realistic assessments of a borrower’s living expenses.

“In the same vein, ASIC has issued proceedings against Westpac in the Federal Court for failing to properly assess whether borrowers could meet repayment obligations, due to the use of benchmarks rather than the actual expenses declared by borrowers.”

CALC warned that over-indebtedness has ramifications for the economy but also for individuals and families.

Highlighting the link between high levels of debt and lower standards of living, CALC said it can have significant long-term effects as well, with the capacity to damage housing, health, education and retirement prospects

Do Households Budget?

Recent research by AMP has found three quarters of Australians will be starting the year without a defined and specified budget, which will make sticking to our new financial goals tricky.

Whilst around half of households do some rough calculations, one fifth do not track spending at all, and this is true across all age bands and states.  Our own surveys suggest that half of all mortgage holders do not budget effectively.

Michael Christofides, Director of Retail Solutions at AMP Bank, said the findings are worrying as budgeting is a critical part to achieving financial security.

“Knowing what you earn, owe and spend gives your greater control over your money and lets you quickly identify areas where you could be saving.

“The problem is that many people mistakenly think they are too busy to budget.

“But perhaps this is because many of us are still using back of the envelope and time-consuming techniques to try and track our finances.”

According to AMP’s research, over a third of Aussies (34 per cent) believe budgeting is too much effort and almost one in five Aussies (19 per cent) say budgeting takes too much time.Even if we do start off the year with good intentions – sitting down and creating an initial budget – over a quarter (27 per cent) of us won’t end up sticking to it.

The research also showed that regularly checking our bank accounts (47 per cent), paper (28 per cent) and excel (20 per cent) were the main ways we keep track of our budgets.

Mr Christofides said, “In this era of smart banking applications, Aussies don’t need to be spending time hunched over an excel spreadsheet – not when an application or smart bank account can do all the work for you with far greater accuracy, giving you far greater control.”

So maybe this year, if we are to meet our financial New Year’s resolutions, we should look to use technology to help us. Not only will it take away the time and effort of budgeting, it will help us to achieve our financial goals and resolutions in 2018.

Softer property could weaken Aussie equities

From InvestorDaily.

Although global equity markets are looking strong for 2018, local equities may be hurt by troughs in the domestic property market, says Tribeca Investment Partners.

According to Tribeca Investment Partners portfolio manager Sean Fenton, there is mounting evidence that the Australian housing cycle has already reached its peak, further reinforced by APRA’s efforts in curbing mortgage lending.

“A heavily indebted household sector that is experiencing flat to negative real income growth, as well as dealing with higher energy and healthcare costs, and which has drawn down its savings rate, is unlikely to fill the gap in growth,” Mr Fenton said.

“Further downside risk to the economy may emerge if the current tightening in mortgage lending standards pushes house prices lower and generates negative equity effects.”

With global markets encouraged by “easy monetary conditions”, central banks would be unwilling to make any sudden moves and lower the interest rate too quickly, “particularly as inflation has remained quiescent”.

“This provides fertile ground for equity markets to rally, but also creates an environment of heightened risk as areas of stretched valuation become more apparent,” Mr Fenton said.

Tribeca would continue to underweight sectors sensitive to the interest rate as well as increase its underweight to the building materials, retail and property development sectors.

“Domestically, we are positioned more defensively in gaming, select industrials and a small overweight to banks,” Mr Fenton added.

RBA Charts Tell A Tale Of Household Woe

The latest RBA chart pack, a distillation of data to the end of the year, contains a few gems, which underscore some of the tensions in the consumer sector.

First, relative the the ultra-low cash rate, actual mortgage rates are rising – no surprise given the rise in mortgage stress we are registering.

Next, home loan approvals are on the slide – expect more of this as tighter underwriting standards bite, and many interest only borrowers are forced to switch to higher cost interest and principal loans.

Home price indices are trending lower (but still net positive growth overall at the moment). Expect more falls in the months ahead.

Household debt continues higher. Now double disposable income, and we have some of the most highly in debt households in the world. Lending growth is still three times income, so this is likely to continue higher.

All this is bearing down on household consumption as real income growth stalls. The savings ratio is falling, as households tap these to prop up their finances, OK in the short term, but unsustainable longer term.

More Evidence of Poor Mortgage Lending Practice

The Australian Financial Review is reporting that New ‘liar loans’ data reveal borrowers more stretched than some lenders suspect.

One in five property borrowers are exaggerating their income and nearly half understating their spending, triggering new concerns about underwriting standards and vulnerability to sharp economic corrections, according to new analysis of loan applications by online property lender Tic:Toc Home Loans.

The number of ‘liar loans’ exceeds original estimates by investment bank UBS that last year found about 30 per cent of home loans, or $500 billion worth of loans could be affected.

Tic:Toc Home Loans’ founder and chief executive, Anthony Baum, said loan applications are representative of larger lenders in terms of location, borrower and loan size, which range from about $60,000 to $1.3 million.

Mr Baum, a senior banker for nearly 30 years, said in many cases applicants did not have to over-state their income for the required loan.

“Our portfolio looks like other organisations,” he said.

Analysis of their applications reveals about 20 per cent overstate their income, typically by about 30 per cent, and 50 per cent state their expenses are lower than the Household Expenditure Measure, also by about 30 per cent.

Property market experts claim the latest analysis, although based on a smaller sample than UBS’s survey, are credible and consistent with independent analysis of the lending standards.

“They do not surprise me,” said Richard Holden, professor economics at University of NSW Business School, who argues the potential problems are compounded by more than one-in-three loans being interest only.

Martin North, principal of Digital Finance Analytics, an independent consultancy, also backed the latest ‘liar loan’ numbers.

Mr North said standards had slipped because of lenders’ readiness to “jump over backwards” to increase business and commission incentives for mortgage brokers rewarding bigger loans.

“Not all lenders are the same but these numbers do not surprise me at all,” he said.

Mr North said there was strong evidence that salaries are overstated by between 15 and 20 per cent by borrowers using a range of tactics, such as over-stating bonuses or, for variable income earners, using peak rather than average income.