NZ DTI framework puts Aussie banks in focus

The Reserve Bank of New Zealand (RBNZ) is currently seeking feedback on the design of the regulatory framework for debt-to-income (DTI) restrictions, the central bank has announced.

Following its November 2021 approach to Kiwi banks on the merits and potential design of two types of debt serviceability restrictions on residential mortgage lending, Te Pūtea Matua (RBNZ) is progressing the instrument as the nation similarly faces rising rates and near-record-high inflation levels like Australia.

Last year, it had looked into the merits and potential design of two types of debt serviceability restrictions on residential mortgage lending — restrictions on DTI ratios and a floor on the test interest rates used by banks in their serviceability assessments.

RBNZ’s assessment found that DTI restrictions were likely to be more effective than “test rate floors” in “supporting financial stability and sustainable house prices”, it explained.

“DTI restrictions also have less of an impact on access to credit for first-home buyers, and in April 2022 we announced that we would proceed with getting this tool operationally ready,” it had stated.

“We are now seeking feedback on the technical design aspects of the regulatory framework for DTI restrictions.”

Time frames involved and why it’s done

Rules on these design matters need to be agreed before banks can begin making the systems changes required to be prepared to implement DTI restrictions, RBNZ explained.

These changes will take banks around 12 months, it stated, adding that: “We have not made a decision to activate DTI restrictions and are not consulting on a particular DTI setting at this stage.”

Debt serviceability restrictions are a macroprudential policy tool used to support financial stability and sustainable house prices by reducing the risk of “boom-bust” credit cycles that amplify downturns in the real economy, it outlined.

“They complement loan-to-value ratio (LVR) restrictions on mortgage lending, another macroprudential tool the Reserve Bank has been using in recent years,” it added.

The bank is open to respondents’ views on the questions set out in the consultation paper until 14 December 2022.

The pressing DTI issue in Australia

Last September, former treasurer Josh Frydenberg confirmed that he had met with regulators to discuss “the balance between credit and income growth” and consider whether any “carefully targeted and timely adjustments” are needed to reduce financial risks from record-low interest rates and surging property prices.

At the time, most economists agreed that house prices would finish the year around 20 per cent up on last year, while wage growth had only been increasing by around 2 per cent.

The Organisation for Economic Co-operation and Development had previously flagged Australia’s high ratio of housing prices to household incomes, outlining that in 2021, Australia had the fourth-fastest house price growth out of the world’s advanced economies over the past 20 years.

This translated to Australian borrowers often having to take on more debt from lenders to purchase increasingly expensive homes.

With the post-pandemic record-low interest rates now obliterated via 2022’s increased cash rate spurt since May, the DTI loan balance could prove even more crucial.

High DTI loan rate falls

According to the Australian Prudential Regulation Authority (APRA), its Quarterly ADI Property Exposure report (June 2022 quarter) had revealed that the value of home loans with high debt-to-income ratios (six times or more) at the banks had fallen once again.

That is, mortgages with a DTI of six or more are deemed to be “riskier” by APRA and the regulator had been closely monitoring such DTIs, which had reached a record-high level of 24.4 per cent in the December 2021 quarter. 

APRA’s latest report showed 22.1 per cent of new mortgages (in dollar terms) had a DTI ratio over six. This was down 1 percentage point from the previous quarter, when 23.1 per cent of loans were deemed to be in the “risky” category, it confirmed.

“The share of new lending with high debt-to-income ratios is starting to trend down, but remains elevated,” APRA noted.

The proportion of bank loans with a DTI over six was at a lower rate of 21.9 per cent one year ago.

The regulator last year introduced a higher loan serviceability buffer rate, requiring banks to consider borrowers’ ability to meet an interest rate of 3 percentage points above the product rate compared to the previous 2.5 percentage points.

[Related: Should lending be limited to 6x income?]