APRA has provided a justifying summary of their actions relating to home lending regulation, but warns that “many of the underlying structural risks associated with high household debt remain and will do so for some time”.
Despite this, they have chosen to keep the countercyclical capital buffer at zero. Housing credit growth is slowing, but there is nothing in this document to suggest APRA intends to loosen the requirements relating to home lending further – (unlike some of the commentators have been suggesting they should reduce the 7% floor rate).
So, as credit availability drives home prices, as we recently discussed, and underwriting is now in a new normal, we should expect more home price falls ahead. We discussed this is our recent video. And this before the Royal Commission reports!
The Australian Prudential Regulation Authority (APRA) has announced its decision to keep the countercyclical capital buffer (CCyB) for authorised deposit-taking institutions (ADIs) on hold at zero per cent.
The CCyB is an additional amount of capital that APRA can require ADIs to hold at certain points in the economic cycle to bolster the resilience of the banking sector during periods of heightened systemic risk. APRA reviews the buffer quarterly. It has been set at zero per cent of risk-weighted assets since it was introduced in 2016.
In its annual information paper on the CCyB released today, APRA outlined the core economic indicators that contributed to the decision, including:
- moderate growth in housing and business credit over 2018;
- a decline in higher-risk categories of new housing lending, including interest-only loans, investor loans and lending at high loan-to-value ratio (LVR) levels; and
- continued strengthening in ADIs’ capital positions as they move to implement the requirements of “unquestionably strong” capital ratios.
Also influencing APRA’s judgement that a zero per cent CCyB setting remained appropriate has been the impact of measures that APRA has taken since 2014 to address systemic risks related to residential mortgage lending standards.
In a separate but related information paper also released today, APRA detailed its objectives for its interventions in the residential mortgage lending market in recent years, which were aimed at reinforcing sound mortgage lending standards and increasing the resilience of the banking sector in the face of heightened risks. These risks included an environment of rising household debt, subdued wage growth, rising house prices, and an erosion of bank lending standards at a time of historically low interest rates. Concerned that the banking sector may be increasing its vulnerability to future shocks, APRA’s response was to undertake a program of work to strengthen and embed sound lending policies and practices, particularly in relation to borrower serviceability, supported by temporary benchmarks to incentivise lenders to moderate the growth in lending to investors and the volume of interest-only lending.
Some of the key findings within the paper include:
- ADIs have lifted the quality of their lending standards, with improvements in policies and practices across the industry;
- During the period in which the adjustments were occurring (2015-2018), the growth in total credit for housing was stable;
- The composition of credit for housing, however, changed notably: the rate of growth of lending to investors fell considerably, and the proportion of loans written on an interest only basis roughly halved (although, given the high starting point, one in five loans is still made on an interest-only basis);
- Although APRA did not introduce measures to specifically target lending with high loan-to-value (LVR) ratios, there has been a moderation in high LVR lending in recent years;
- Initially, ADIs sought to adjust lending practices without resorting to interest rate increases. Ultimately, however, interest rates were used to help manage demand for credit. The pricing differential that has emerged between owner-occupied and investor loans, and between amortising and interest-only loans, is often seen to be a product of the APRA benchmarks, but is also reflective of changes to capital requirements that will likely see differential pricing for higher risk lending continue into the future; and
- APRA’s actions revealed a number of system and data deficiencies within ADIs that constrained their ability to adjust their practices. In addition, smaller ADIs tended to find it more difficult to manage quantitative-based constraints. That said, the period in which the benchmarks were in place saw small ADIs increase their market share slightly, partly reflecting APRA’s approach, which provided more flexibility for smaller ADIs.
Chairman Wayne Byres said that after the announcement of the removal of the investor and interest-only benchmarks last year, it was appropriate for APRA to review the impact of its regulatory actions, and reflect on whether their objectives had been achieved.
“APRA could have chosen to utilise the countercyclical capital buffer as a means of building resilience in the banking system. However, APRA took the view that the better course of action was to address, through targeted measures, the underlying concern – the erosion in lending standards driven by strong competitive pressures amongst housing lenders.
“APRA’s assessment is that, collectively, its interventions achieved the necessary objective of strengthening lending standards and reducing a build-up of systemic risk in residential mortgage lending. The review provides some valuable insights on the impact of the measures, which have necessarily involved some trade-offs and judgement in the process of strengthening the resilience of the banking sector.
“Importantly, while the temporary lending benchmarks are being removed, the changes we have made to lift lending standards are designed to be permanent, continuing to support the resilience of the banking system and ultimately the protection of bank deposits,” Mr Byres said.
In conjunction with the other agencies on the Council of Financial Regulators, APRA will continue to closely monitor economic conditions, and will adjust the CCyB if future circumstances warrant it. Separately, APRA is also considering setting the buffer at a non-zero default rate as part of its ongoing review of the ADI capital framework.
The countercyclical capital buffer information paper, and the review of APRA’s prudential measures for residential mortgage lending risks can be viewed on the APRA website at https://www.apra.gov.au/information-papers-released-apra.
