Unintended consequences for borrowers

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The Australian Prudential Regulation Authority (APRA), has made a simple, but significant change to the lending rules for banks and other authorised lenders. 

ApraThis could well lead to some unintended consequences.

From November, borrowers seeking housing finance will need to demonstrate that they are able to meet repayments when interest rates are assessed at least 3 per cent higher than the actual loan interest rate applied to their loan.

This assessed rate, also called the buffer, floor, or repayment serviceability rate, was reduced to 2.5 per cent above the standard variable rate when it became apparent that we were not going into a recession as a result of the pandemic.

The issue is that the provision of housing finance is a complicated process because it needs to balance the risks to lenders of providing huge amounts of money against the opportunities that housing finance provides to home buyers and investors.

The history of broad-brush interventions in such complex systems, no matter how well-intentioned, shows us that there will always be some unanticipated and even undesirable results.

We may be about to see some of these unexpected outcomes in the coming months.

Moving from lower to higher floor rates in just one year

Before the recent APRA change, the low floor rate was one of the main drivers of the housing boom, because it enabled more first home buyers to enter the market.

At the same time, the lower floor rate has given all property buyers, including upgraders and investors, access to higher amounts of housing finance.

The lower floor rate had the same effect as a cut in interest rates of about two percent, and in my blog, ‘The property market stripped bare‘ in March this year, I predicted that this could lead to an average rise in housing prices of 25 per cent above pre-pandemic levels.

The increase in the floor rate will now reduce the potential for housing prices to rise nationally by 20 per cent over pre-pandemic levels, which is where the market was poised as at the end of September.

This slowing down of buyer demand is the aim of APRA’s change to the floor rate.

But what of the unintended consequences?

Existing homeowners will find it harder to refinance or move

APRA’s change will tie many existing homeowners to their current mortgages because their future loan repayment serviceability will be assessed at the new, higher floor rate.

They will find it more difficult to “shop around” for a better deal, use their equity for renovations, or even relocate in the future.

First home buyer demand will move, rather than reduce

Affordable HouseMany potential first home buyers will simply shift their search for areas where housing prices are more affordable.

While this will reduce demand in the most expensive first home buyer locations, it will also drive up demand in lower-priced suburbs and more or less costly types of housing until the new floor rate borrowing limits are reached.

So, rather than reducing overall home buyer demand, the rise in the floor rate will merely push first home buyers into more affordable locations and types of properties,  while tying many existing homeowners to their current mortgages.

ALSO READ: This is a chance to make a difference to home loan borrowers

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About

John Lindeman has well over a decade of experience researching the nature and dynamics of various types of assets at major data analysts and is a leading property market researcher, author and commentator. For more information visit Lindeman Reports.


'Unintended consequences for borrowers' have 3 comments

    Avatar for John Lindeman

    October 20, 2021 Joe

    What is this statement saying? Can you elaborate.. is this a reduction in house prices by 20%?

    “The increase in the floor rate will now reduce the potential for housing prices to rise nationally by 20 per cent over pre-pandemic levels, which is where the market was poised as at the end of September.”

    Reply

      October 20, 2021 Michael Yardney

      Joe, What Jon Lindemann is saying was that while initially he thought property values will increase by 25% because of the reduction of interest rates the latest Apple changes would limit the growth over this property cycle.

      Reply

    Avatar for John Lindeman

    October 19, 2021 equitus super

    good stuff. House rent comes under most expense in Australia. It is going to benefit for House owners to invest the rent amount in SMSF and get their money after retirement. The benefits of investing in SMSF through the property is your money is getting double & securing your future as well.

    Reply


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