Mortgages getting riskier: RBA

In a speech to the Commonwealth Bank of Australia's 7th Annual Australasian Fixed Income Conference on Tuesday, RBA deputy governor Philip Lowe reiterated the central bank’s concern over residential property investment.

“It is important to make clear that I am not saying that this will end badly, or even that is likely to end badly – just that, on average, recent loans are probably a bit more risky than those made earlier,” Mr Lowe said.

“One reason this might be the case is that the likelihood of some type of painful household balance adjustment in the event that there is a correction in the housing market, while still not high, has probably increased,” he said.

“Given this, it is prudent for both borrowers and lenders to be careful.”

The Australian Prudential Regulation Authority (APRA) has been discussing this evolution of risk with financial institutions for some time, Mr Lowe said, and there has been a strong focus on maintaining appropriate lending and risk-management standards.

“As has been well publicised, the members of the Council of Financial Regulators, including the bank and APRA, have also held discussions regarding the merits of additional measures within the existing prudential framework,” he said.

“If risk has increased, then it might be appropriate to adjust one or more of the elements within that framework to reflect that change in risk.”

However, Mr Lowe stressed that the fact that the RBA and APRA are talking about these issues does not mean that a return to the type of “heavy regulation” seen in earlier decades is on the agenda.

“That earlier experience demonstrated all too clearly the distorting effects of such regulation as well as the ability of financial institutions to circumvent it, including by activities outside the regulatory net,” he said.

“As it turns out, the financial system is very good at finding ways of getting money from the people who have it to those who want to borrow it, although perhaps less good at containing aggregate risk.”

Mr Lowe said banks need to ensure that their lending standards remain sound and that they hold the appropriate amount of capital against the risks they face.

In addition, investors need to evaluate developments in the broader market, including how their investments might turn out in less benign scenarios, he said.

“Careful attention to these issues will help ensure that in getting the economic benefits of low interest rates we do not generate unacceptable risks on the financial side.”