In response, New Zealand’s Finance Minister Grant Robertson broadened the Reserve Bank of New Zealand’s (RBNZ) remit to account for the impact of monetary policy on house prices, and issued a direction that will shape the bank’s macroprudential policy. These moves could have a substantive impact on future house price growth.
New Zealand’s house prices have increased by approximately 82 per cent in the decade since the global financial crisis. In February 2020, the median house price was NZ$640,000 (US$459,000). Ten years prior it was NZ$350,000 (US$251,000). Over the past year house price appreciation accelerated, with the median price reaching NZ$826,000 (US$593,000) by March 2021.
Moves by the RBNZ to minimise an incipient COVID-19 recession undoubtedly fuelled the market’s rise. The RBNZ reduced its official cash rate to an all-time low of 0.25 per cent and suspended restrictions on loan-to-value ratios, which impose minimum deposits on residential mortgages. Unemployment peaked at only 5.3 per cent in the fourth quarter of 2020, assisted by a wage subsidy program and the effective elimination of COVID-19 from the community.
These large and rapid increases in house prices put New Zealand’s government under increasing political pressure to take action. In November, Robertson proposed changing the RBNZ’s monetary policy committee remit to include the avoidance of house price instability. He proposed that the RBNZ should ‘seek to avoid unnecessary instability in output, interest rates, the exchange rate and house prices’.
This proposal added house prices to the handful of economic indicators the bank must give consideration to when setting monetary policy. But it would not alter the bank’s monetary policy objectives, which are to keep inflation between 1–3 per cent while supporting maximum levels of sustainable employment, despite some perceptions to the contrary. Robertson also gave the bank the opportunity to suggest alternative changes to either its monetary or financial policy functions to address the government’s housing concerns.
Yet after receiving the letter, RBNZ Governor Adrian Orr stated that ‘fiscal policy is far more effective’ at taking demand-side pressure off house prices. This sentiment was later formalised in Orr’s detailed response to Robertson’s proposal in December. The RBNZ emphasised that house price determinants are beyond its control and expressed its preference for changes to its financial policy functions over Robertson’s proposed changes to its monetary policy remit.
Still, in February, Robertson pushed ahead with his proposed changes to the remit. However, he also took up the RBNZ’s suggestion to focus on financial policy, issuing a ‘direction’ that affects how the RBNZ operates in its role to promote financial stability. Like other central banks, the RBNZ also functions as a banking system regulator and has responsibility for maintaining a sound and efficient financial system. The direction requires the bank to pay attention to government policy on housing in relation to its financial policy functions. Explaining the move, Robertson stated that ‘the bank will have to take into account the government’s objective to support more sustainable house prices, including by dampening investor demand for existing housing stock to help improve affordability for first-home buyers’.
This statement speaks directly to the loan-to-value ratios, which provide the framework to single-out investors in the provision of credit. Prior to the pandemic, investors faced more restrictive loan-to-value ratios than owner-occupiers due to the RBNZ’s long-standing view that housing investment poses a risk to financial stability. Owner-occupiers required a minimum 20 per cent deposit, while investors required 30 per cent for existing houses. Even prior to the direction being issued, the RBNZ had brought forward the consultation period for reinstating the loan-to-value ratios, and in February it announced that the restrictions would be re-instated from March.
The RBNZ also announced the loan-to-value ratio restriction on investors would be further tightened from May to a 40 per cent minimum deposit. These moves should assist in dampening further house price rises and improve housing affordability for first-home buyers. Research has demonstrated that loan-to-value ratios and related credit restrictions are effective in containing price appreciation.
Still, the government’s direction further obscures the purpose, implementation and evaluation of macroprudential policy. Prior to Robertson’s direction, prominent experts have argued that New Zealand’s macroprudential rules needed clarification and development. The new direction raises the potential for future conflict between the government’s housing goals and the RBNZ’s duty to promote financial stability. The planned introduction of a financial policy remit later this year is an opportunity for these problems to be addressed.
For the time being, it is clear that the current wording of the government’s objective does not require direct promotion of affordability for first-home buyers. Rather, government policy is to dampen investor demand as a means to promote affordability. This is an important distinction given that populist demand for easy credit poses a threat to financial stability. The current loan-to-value ratio settings, which require a 20 per cent deposit for owner-occupiers but a larger deposit for investors, appear prudent yet still give owner-occupiers — including first-home buyers — an advantage when bidding on a house.
Ryan Greenaway-McGrevy is Associate Professor in the Department of Economics and Director of the Centre for Applied Research in Economics at the University of Auckland.