The release of the RBNZ’s Financial Stability Report on November 12 is the biggest event for the kiwi this week. The market is looking for guidance on the RBNZ’s plans for its macro-prudential tools that are cooling the property market, which could have implications for monetary policy and the NZ dollar.
The bank introduced the limits on risky housing lending to prevent the formation of a property bubble by limiting upward pressure on house price inflation. The traditional method of cooling inflation is through the use interest rates. However, the RBNZ wanted to reduce its incentive to raise interest rates by using other methods to cool the property market, thereby decreasing the attractiveness of the kiwi to yield seekers.
Last year the RBNZ outlined that retail banks would be restricted to having only 10% of total new home loans with initial deposits of under 20%. Prior to this, low-equity mortgages accounted for around 25% of all home loan at the major banks. Now, they only account for around 7-8% and upward pressure on house price inflation has eased substantially (house price inflation has fallen to around 6% from 10% a year ago).
While some of this success can be attributed to higher interest rates, the LVR restrictions are clearly working. In fact, it may be time for the bank to consider loosening the limits. It’s unlikely the RBNZ will completely remove the restrictions for fear that it will stoke another push towards low-equity loans. Instead, the bank may push the LVRs up to 15-20% of total home loans.
The impact on the kiwi
The removal or easing of these restrictions may theoretically put more pressure on the RBNZ to raise interest rates sooner. However, the outlook for interest rates in NZ is very data dependant and the RBNZ isn’t going to risk removing the LVR limits if it thinks it will just have to raise rates to compensate, as this would put unwanted upward pressure on the NZ dollar. In saying that, we expect a positive reaction from the commodity currency if the RBNZ mentions the possibility of easing the limits.
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