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Royal commission could hurt housing, RBA’s Guy Debelle warns
The Australian 12:00am May 16, 2018
Michael Roddan
Australia’s central bank has joined a chorus of economists warning that the banking royal commission could spark a real estate downturn if lenders are forced to dramatically overhaul their standards.
Reserve Bank deputy governor Guy Debelle yesterday told a forum of international bankers that Australia’s heavily indebted households and the likelihood of higher mortgage repayments remained a key risk to the economic outlook.
Dr Debelle said heavily indebted borrowers could derail economic activity if there was a jump in interest rates, borrowers faced higher repayments or lenders significantly tightened lending standards in the wake of the findings of the royal commission — all of which could materially dent house prices.
Speaking to finance workers at the International Swaps and Derivatives Association forum in Hong Kong, Dr Debelle said fallout from the royal commission was more likely to take heat out of the housing market than spark a recession, as some have suggested.
Just two months into formal hearings, senior counsel assisting the royal commission Rowena Orr QC has grilled the banks on mortgage fraud, bribery, false documentation, failure to verify customer income, not assessing expenses, failure of internal controls to remediate breaches and failures to report misconduct to the corporate regulator.
As banks race to overhaul divisions that have fallen out of line there is now a growing risk that tightening underwriting standards could spark a credit crunch, which investment bank UBS has warned could trigger a recession.
“This may have its largest effect on the amount of funds an individual household can borrow, more than the effect on the number of households that are eligible for a loan,” Dr Debelle said.
“This, in turn, means that credit growth may be slower than otherwise for a time.
“To me, that has more of an implication for house prices than it does for the outlook for consumption."
Dr Debelle said the prudential regulator had been focused on ensuring that lenders assessed borrowers’ income appropriately.
“While the royal commission has highlighted a number of cases where this has not been the case, an important consideration from a macroeconomic perspective is how widespread this has been, and whether it is consequential for the ability of most households to afford to service their loans,” he said.
Dr Debelle also reiterated warnings about the “large amount of mortgage debt” held by local households, which left them vulnerable to interest rate shocks and larger repayments, particularly for interest-only borrowers.
He said because wages growth — which has tumbled to a record low in recent years — had been dragging on household income, a number of borrowers “may be carrying a larger mortgage for longer than they expected when they took out the loan”.
“While they can service the mortgage, it has consumed a larger share of their income for longer than they might have intended,” Dr Debelle said.
CBA last week revealed a drop of almost 10 per cent in quarterly profit amid signs some borrowers were falling behind on their mortgages, which UBS analyst Jonathan Mott said was the first time a major bank had commented on the impact from pressures on household cash flows.
The comments come amid renewed fears of economic fallout stemming from the royal commission into the banking sector, as regulators and the government look to overhaul the way fees are paid across the financial services sector.
This week billionaire apartment developer Harry Triguboff told The Australian he had brought in a raft of measures, including increasing commissions to real estate agents, to halt weakening sales in a market he said was “getting worse”, while other developers including Stockland CEO Mark Steinert said they were also feeling the squeeze.
Meanwhile, a crackdown on financial advice — including killing off problematic trailing commissions that were grandfathered in 2013 — could end a significant money-spinner for the largest banks and wealth managers as the fallout from the royal commission continues to build.
JPMorgan chief economist Sally Auld said this week the financial and real estate sector could face a crash in employment worse than the last financial crisis.
Ms Auld has forecast the workforce size in these industries could contract by 8 per cent from peak to trough.
Independent economist Saul Eslake said that if the financial sector was forced to overhaul lending standards, it could result in fewer borrowers qualifying for loans, which could affect demand for housing.
He said this “could extend the very modest decline in house prices that has been occurring since last October”.
“That’s not necessarily a bad thing,” Mr Eslake said.
“I don’t think we have a cohort of homeowners hanging on to their properties by their fingertips.
“There’s not a lot of evidence from default rates or delinquency rates.
“Bubbles usually end badly, but you don’t know whether something has been a bubble until it has burst.
“Just because prices have gone up a lot doesn’t itself prove there has been a bubble.”
The RBA has previously warned Australia’s binge on interest-only home loans could come back to haunt it over the next three years as hundreds of billions of dollars of these loans switch to normal repayment schedules, leaving borrowers scrambling to refinance or sell.
About $120 billion worth of interest-only loans — about 7 per cent of the total value outstanding — is on track to convert to normal principle-and-interest loans over each of the next three years.
Borrowers are facing a jump in annual repayments of between 30 per cent and 40 per cent.
This is equivalent to $7000 a year for the “representative” borrower with a $400,000, 30-year mortgage with a typical five-year interest-free period.
Dr Debelle said he “took comfort” in the fact that arrears were “low” and that there were “quite a few mitigants” helping borrowers cope with increased payments, such as offset accounts and the ability to refinance at a lower rate.