Hive News Thursday: DTI limit on hold pre-election; Kaikoura quake may cost NZ$8 bln; 'Rates have bottomed'

The focus in and around yesterday's half-yearly Financial Stability Report was on the Reserve Bank's plans for Debt To Income (DTI) limits and the impact of the Kaikoura quake.

The short answer for the DTI tool is that it's essentially on hold until at least the middle of next year, and more than likely until after the 2017 general election.

Neither Bill English nor Graeme Wheeler would rule out introducing a DTI limit before an election in September or October next year, but the timelines implied by their comments yesterday suggest it is very unlikely.

Quite a few Government MPs will be breathing a sigh of relief over that if the questions in the select committee hearing were any indication. Alastair Scott described the DTI as "at best unnecessary and at worst a bad idea" in a direct challenge to Wheeler to justify it.

Wheeler told the news conference and confirmed in the committee hearing that the Reserve Bank would not use a DTI limit at the moment because house price inflation had moderated in Auckland in recent months and had softened in the last month or so elsewhere. However, he said the bank was unsure whether this slowdown in the wake of the 40% deposit requirement would be sustained, given new housing supply was significantly below demand, which was still being boosted by very low interest rates and record high net migration.

Wheeler said the bank had proposed putting the DTI into the bank's Macro-Prudential tool kit to English, but faced questions and another meeting was due in a couple of weeks. English told reporters after his own select committee hearing that the Government had various questions for the Reserve Bank, and he noted that even once it was in the toolkit, the bank would have to carry out extensive consultation with banks.

English said it was possible the Government would not allow it in the tool kit and he noted the Government had to think about the wider impacts on certain groups, including First Home Buyers, and the wider economy. John Key sounded equally sceptical, now that house price inflation has come off the boil in Auckland at least.

"The tools the governor has seem to be working quite well. Whether there's a need to extend that to any further tools is something we want to take some advice on," Key told reporters in Parliament.

4.5 or 5 or 6?

I asked Wheeler if the Reserve Bank had a view yet on where any DTI might be set, given the FSR pointed to the 4.5 limit used in Britain. Mortgage brokers have told me that a limit set at 4.5 times income would stop the housing market stone dead. The Reserve Bank's own fresh figures in the FSR showed that more than 60% of rental property investors were borrowing at DTIs of over 5, while more than 40% of owner-occupiers were borrowing more than 5 times income and 35% of First Home Buyers were borrowing more than five times income.

He was coy with his answer, but did confirm the Bank was looking at using a 'speed limit' system similar to that used for the LVR restriction and like the one used in Britain with its DTI tool.

"If you look in the UK, for example, I think the ratio they have is 4.5 with a requirement that no more than 15% of lending take place above that DTI ratio. Now I am not giving any indication of our thinking in terms of a particular ratio, but we would probably be that sort of concept," he said.

So what would unleash the tool?

Wheeler repeated the Bank would not use a DTI tool at the moment if it had it, but he did give a clear idea on what would prompt him to pull it out of the tool box.

"I think what we'd need to see is that there's a resurgence in house price inflation, that it was picking up in Auckland and also picking up further nationally. And we'd want to be clear that it's credit related, with commitments expanding and continued increases in DTI," he said.

He said it was too early to say if the housing market latest cooling was more permanent than the previous two coolings in the months after versions 1 and 2 of the LVR restrictions in the second halves of 2013 and 2015.

But he seemed slightly more confident this time around, pointing in both the news conference and his select committee appearance to a "quite dramatic" 30% fall in new lending to rental property investors since May and an 8% fall to other mortgage borrowers, a tightening of bank lending criteria and a slight rise in longer term mortgage rates.

"The dynamics in the housing market are starting to change," Wheeler said, although he also noted that demand was still stronger than supply given not enough houses were being built in Auckland to cope with record high net migration.

'Interest rates have bottomed out'

Wheeler also pointed a recent rise in long term interest rates globally and the rise in local term deposit and longer-term fixed mortgage rates as a indicator that rates may have bottomed out.

"We've certainly seen an increase in mortgage rates just as we've seen an increase in deposit rates as well, as banks are finding that their credit growth is exceeding their deposit growth and they are having to basically access offshore wholesale finding, which is more expensive, and also they are having to compete more to try and get deposit inflows as well. So you are seeing those rates rise," he said in the news conference.

Wheeler later told the select committee that "we've probably seen the bottom now in long term global interest rates."

Spencer said the bank had cautioned borrowers for some time they needed to be careful in the event of a rise in interest rates.

"People need to be very careful about borrowing increasingly large mortgage amounts at very low interest rates, because it is only a matter of time before rates do increase, and if you look internationally, in recent weeks there are indications that those global interest rates have turned up," Spencer said.

"How far that goes in terms of the trend remains to be seen, but I think a lot of people are saying that we may have seen the bottom of the interest rate cycle."

English also repeated his weekend comments about interest rates having bottomed out, adding that a moderate increase of significantly less than 100% should be welcomed and would not unsettle the economy.

"I think some normalisation of interest rates wouldn't be a bad thing," he said.

Housing supply and stamp duties

Elsewhere on the housing market, English told the select committee that a new factor in the housing market in Auckland would be the Government's own housing development programme, given Housing New Zealand would have the capacity to add up to 39,000 homes on its existing land under the new Unitary Plan.

This meant the Government could keep building through the ups and downs of the housing cycle, unlike private developers, he said.

"Where developers might pull back a bit (when prices fall), the Crown can keep going because we don't have to pay for land. That's a new factor for housing supply."

However, when talking to reporters later, he downplayed the prospect of New Zealand adopting a Vancouver-style stamp duty on foreign buyers, although he did not rule it out.

"We don't completely rule things out, but a convincing argument hasn't been made for stamp duty," he said, adding that some Australian states were considering rolling back their taxes on foreign buyers because of fears about the impact on apartment values in some big cities.

Quakes may cost up to NZ$8 bln

Elsewhere, the Reserve Bank, which also regulates the insurance industry, said it believed the magnitude 7.8 Kaikoura earthquake on November 14 could cost up to NZ$8 billion to repair damaged infrastructure and buildings, with the Government paying up to NZ$3 billion of the repair bill and insurers paying up to NZ$5 billion.

The Government's initial estimates of its costs have ranged from NZ$2 billion to NZ$3 billion, but there have been no official estimate of the total potential costs until now. Boston-based insurance analysts Air Worldwide have estimated the total insurance industry losses at up to NZ$5.3 billion.

Wheeler pointed to the initial estimates in the Bank's half yearly Financial Stability Report (FSR), which also said insurers had sufficient capital to cope with the claims.

It estimated insurers had NZ$14 billion more in reinsurance cover and capital buffers than at the time of the 2010/11 Canterbury earthquakes.

Insurers had paid out NZ$32 billion for the Canterbury quakes, which was 84-91% of the estimated total cost for insurers of NZ$35-38 billion.

Wheeler also said the earthquake had not changed the bank's view that the economy was growing at an annual rate of around 3.5%.

Wheeler and his deputy Grant Spencer said the Government's accounts could handle the cost and Wheeler repeated comments from November 10 that there was no need for extra Government stimulus, given the economy was at or near its productive capacity.

"The government finances are in pretty good space and so we don't think they would have difficulty if the actual costs turn out to be more than the NZ$2-3 billion initial estimate," Spencer told a news conference after the release of the FSR (video above).

"I would add that that NZ$2 billion to NZ$3 billion is the government cost around infrastructure replacement etc in the top of the South Island. In terms of the total cost you need to add in the expected insurance cost, which could be, we think, according to early estimates, in the NZ$1 billion to NZ$5 billion territory. So in terms of the total cost potentially of the Kaikoura quake you are adding those two components together to get something in the order of NZ$3 billion to NZ$8 billion," he said.

Spencer said the quakes would generate an initial downturn in local activity, but this would be offset by extra spending on repairs and recovery in both the short and long terms.

"In terms of an initial look at our GDP outlook, we don't think that's very different at this time in terms of the net of those two effects," he said.

'No need for post-quake stimulus'

Wheeler also repeated his view that fiscal stimulus was not needed in response to the earthquakes.

"At this point you've got an economy growing at around probably 3.5%, and at this stage based on how we are interpreting things, it is not an economy that's in need of substantive fiscal stimulus at this point," he said.

"If you look at it relative to the total economy, the economy is about NZ$250 billion in terms of GDP, and if you look what's driving growth in the economy, it's the very strong investment growth that we have been seeing, high tourist records, record migration flows and very high, historically high, labour force participation," Wheeler said.

"So there's a lot of momentum in the economy so we are still learning about the potential costs and impacts, but at this point that's our view," he said in confirming Spencer's comments about the quakes not changing the growth outlook.

Wariness about increasing use of 'hot' foreign funds and a NZ$40 bln funding challenge

Meanwhile, the Reserve Bank highlighted the increasing use by banks of 'hot' wholesale money markets overseas as local term deposit growth has fallen behind lending growth.

It warned this opened the banks up to being susceptible to disruptions on those markets in the event of a new bout of global financial turmoil and it expected these pressures would force banks to compete harder for local term deposits by increasing interest rates.

The bank regulator pointed out in the FSR that if the recent divergence between credit and household deposit continued, the banks would have to increase their own borrowing from wholesale money markets.

"That would add to the already significant volumes of market funding that banks are expected to roll over in the medium term," the Reserve Bank said.

"Banks will need to replace about NZ$40 billion of market funding that will no longer count towards the Core Funding Ratio (CFR) within the next three years," it said, adding that changes by the Australian Prudential Regulation Authority (APRA) to its APS222 standard meant the New Zealand subsidiaries of Australian banks would have to reduce their reliance on funding from their Australian parents.

A significant portion of this funding would have to be raised offshore, the bank said.

"While CFR requirements will mean that most of this funding would be raised at longer terms, greater offshore funding increases rollover risks as banks will be required to raise funds more regularly, and in greater volumes, from offshore wholesale markets," it said.

The bank said the availability and cost of raising funds varied.

"For example, a material increase in banks’ use of market funding could threaten credit rating downgrades, as credit rating agencies view the reliance on offshore funding as a key weakness of the major New Zealand banks," it said.

"In addition, a number of potentially large international vulnerabilities could disrupt global funding markets, including: a sharp unwinding of vulnerabilities in China; further stress in European banks and economies; a rise in protectionism in global politics; and possible spillover effects on emerging market economies if US interest rates rise."

"Some of these shocks could disproportionately affect New Zealand banks. For example, investors could worry about the impact of a crisis in China on the solvency of New Zealand banks, given China is the second largest market for New Zealand exports and a sharp reduction in New Zealand export demand would harm the domestic economy," the bank said.

In other political news...

Roy Morgan reported support for National rose 1.5% to 49.5% in its monthly opinion poll taken on November 20, while support for Labour fell 3.5% to 23.5% and support for the Greens rose 3% to 14.5%. Support for New Zealand First fell 2% to 8%.

Quote of the day:

Southlander Bill English in answering a mis-question from James Shaw about offshore risks and the earthquakes in the South Island:

"The South Island is not offshore. It's the North Island that's offshore. I'm from the South where people think from Christchurch to Auckland is just a murk of metropolitanism."

Have a great day