Reserve Bank ‘caught off guard’ by surging house prices – Westpac economist
The strength of the housing market has caught the Reserve Bank (RBNZ) “completely off guard” and its decision to consider bringing loan-to-value ratio restrictions back is not surprising, an economist says.
“As recently as the August monetary policy statement, they were forecasting negative 7 per cent house price inflation for the year ended December 2020,” said Westpac chief economist Dominick Stephens.
“The latest data is clearly showing that we’re going to get something more like positive 9 so they’ve had a 16 percentage point surprise … and they’re scrambling to catch up.
“They’ve been facing a bit of a conundrum recently. They’ve had to reduce interest rates to prevent inflation dropping away but that has sparked a house price boom and the lift in prices is causing widespread concern around society and is also a threat to financial stability.”
Stephens said RBNZ made the point, however, that the counter-factual would have been worse.
“Had they not reduced interest rates in recent years, New Zealand may have slipped into deflation, which is absolutely terrible and would produce worse social outcomes than rising house prices.”
RBNZ had two issues at stake, Stephens said.
“First of all if house prices really get away … then that could be a risk to financial stability because it raises the possibility of a subsequent sharp decline.
“But secondly the fact that they’ve reduced interest rates over the past six months, and have clearly sparked a big lift in house prices, is a threat to their political and social licence to operate monetary policy in pursuit of the inflation and employment targets.
“Basically people are starting to question the value of the Reserve Bank’s monetary policy if every time they lower interest rates it tends to create this house price increase.
“So I think as much as actually doing something about the problem the Reserve Bank also has to be seen to be sensitive to the impact of its actions on house prices.”
Stephens said breaking the commitment to keep LVRs off for one year, which RBNZ said it would do when it removed them in May, was “drastic”.
“They are breaking a commitment and I think that calls into question the other commitments they’ve made.
“They made quite a commitment to keep the OCR [official cash rate] unchanged until March 16 but if the LVR commitment can be broken perhaps the OCR one can too.”
Stephens said any new restrictions would be squarely aimed at investors, not first home buyers, and the current situation was proof low interest rates, not housing supply, was the main driver of the booming market.
“Over the past three decades the biggest contributor to rising house prices in New Zealand has been a dramatic change in interest rates and I think what’s going on right now is proof of that.
“So we have very, very low net migration, we have a booming construction sector yet house prices are absolutely booming … it’s clear the reduction in interest rates has been far more important all along.
“New Zealanders like to imagine that New Zealand-specific factors are driving our house prices like housing supply here or council restrictions there, but the fact is that all around the world a big drop in interest rates has sparked a huge increase in asset prices of all types, including housing markets in many cities and share prices all around the world.”
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