Wednesday, August 22, 2012
Three papers from key economic institutions found requiring borrowers to finance part of the purchase themselves would help to moderate future housing booms - and reduce the scale of the subsequent bust.
Senior officials of the Reserve Bank, the International Monetary Fund and the Bank of International Settlements separately reported that setting maximum loan-to-valuation ratios could help reduce the damage housing cycles cause to the economy.
The Reserve Bank paper, co-authored by the head of its financial stability department, Luci Ellis, also found similar benefits from requiring borrowers to pay down the capital of the loan over time, rather than taking out interest-only loans.
Most Australian home loans already meet both criteria. But many housing investors take out interest-only loans for 100 per cent of the property's valuation, as do investors in commercial property.
Housing booms and busts, in the United States, Spain and Ireland, were the main cause of the global financial crisis. While Australia escaped relatively unscathed, the Reserve has used this year's conference to work out how the booms and busts could be better regulated in future.
Australia's banks are free to lend as they see fit. But the Australian Prudential Regulation Authority makes them set aside extra capital to cover loans for more than 80 per cent of a property's valuation. There are no bars to interest-only loans.
In a survey of housing policy options, senior IMF researcher Giovanni Dell'Ariccia found the most promising were setting limits on loan-to-value ratios, and borrowers' debt-to-income ratios.
"Containing leverage will reduce the risks associated with declines in house prices", he said. "This will likely result in fewer defaults when the bust comes ... (and) reduce the risk that a large sector of the real economy ends up with severe debt overhang."
The Reserve's paper, by Ms Ellis, Mariano Kulish and Stephanie Wallace, concludes that the terms of loan contracts "matter a great deal for financial stability... Loans that build in some amortisation of principal over time are less destabilising.
"Short-term loans that must be rolled over are particularly dangerous. This helps explain why commercial property lending ... has been so problematic for financial stability."