RBA warns against ‘over-exuberance’ as house prices rise

The Reserve Bank has warned banks against cutting lending standards as prices of assets, including houses, are pushed higher by cheap debt, saying the measure could leave households and businesses more vulnerable to future shocks.

Despite the warning, however, the central bank said lending standards of Australian banks remain prudent and the looming rise in bad debts and insolvencies will be much more modest than feared last year.

The Reserve Bank is keeping a watchful eye on the surging property market.
The Reserve Bank is keeping a watchful eye on the surging property market.Credit:Louie Douvis

The RBA’s Financial Stability Review on Friday reinforced its recent commentary that while it is closely watching the surging property market it does not believe that credit standards of the banks have slipped.

The review said that the financial system had been resilient to the COVID-19 shock and Australia’s banks were in a strong position. However, it added that the ultra-low level of interest rates created the risk of excessive borrowing.

It said there was a global risk that a sustained period of rising asset prices could lead to “over-exuberance and extrapolative expectations” including increased used of debt. These risks were greater for leveraged assets, including houses.

“In an environment of accommodative financial conditions with rising asset prices it is particularly important that there is no excessive risk-taking by the financial sector,” the RBA said.

“Increased risk-taking could take the form of looser lending standards for individual loan assessments, or a relaxation of internal limits on the share of riskier loans they make.”

“Even if lenders do not weaken their own settings, increased risk-taking by optimistic borrowers could see a deterioration in the average quality of new lending. This would weaken the resilience of of businesses and households, and so the financial system, to future shocks.

Australian house prices are rising at their quickest pace since the late 1980s, prompting some economists to predict it is a matter of time until regulators intervene to slow the growth. The RBA said house prices were rising globally, but few countries had intervened to address the risks.

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Median home prices are making Australian cities among the most expensive in the world to live in.
Median home prices are making Australian cities among the most expensive in the world to live in.

The report also repeated that the Council of Financial Regulators, which also includes the banking regulator, would continue to closely monitor the mortgage market and could respond if financial risks increase.

Amid fears last year of a wave of bad debts, the RBA said the sharp improvement in Australia’s economy now meant the rise in banks’ bad loans would be modest.

Household finances had improved, it said, helped by $36 billion drained from superannuation funds under an early access scheme, government support, and increased saving.

The sharp rebound in housing had also strengthened household balance sheets, with the share of loans where the mortgage is worth more than the house (known as “negative equity”) falling to 1.25 per cent, down from 3 per cent a year ago.

It said the Australian banks’ lending standards were “robust” and largely unchanged, though a tightening in credit that occurred earlier in the pandemic had been unwound. The share of loans a high loan-to-valuation ratio (LVR) was low by historical standards, it said, and credit growth had only increased slightly.

Despite the better outlook, the RBA said more business insolvencies were likely after key government support schemes including JobKeeper recently ended.

“Vulnerable businesses may find it difficult to continue to operate and/or meet their debt repayments if their revenues do not increase sufficiently to cover the withdrawal of government support,” the RBA said.

Banks were well positioned to deal with the likely increase in soured loans, it said, noting lenders had already lifted their provisions for bad debts by about 40 per cent compared with recent years.

Australian banks had also lifted their top-tier capital by $16.9 billion since COVID-19 hit, with more than half of this increase coming from the regulator’s dividend cap, which was lifted at the start of this year.

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Source: Thanks smh.com