RDP 2021-07: Macroprudential Limits on Mortgage Products: The Australian Experience 2. The Credit Growth Limits

APRA's 2 macroprudential policies were announced in late 2014 and early 2017, respectively. The policy designs had 4 goals: efficient and well-targeted on the identified risks; competitively neutral across the industry, but with flexibility for smaller banks; able to be implemented quickly and simply; and able to be dialled up or down as required (APRA 2019b). The 2 quantitative limits were the most significant components of a package of measures that more broadly increased the intensity of housing lending oversight. The overarching objectives of this package were to strengthen the resilience of individual ADIs, and to promote the stability of the financial system overall.^[3]

The policies were supported by the Council of Financial Regulators, which comprises APRA, the Australian Securities and Investments Commission, the Reserve Bank of Australia (RBA), and the Australian Treasury. The risk environment that led to the policies is described in most detail by RBA (2018). The main concern was that the targeted mortgage types were contributing to a housing market upswing that raised the risk of a subsequent economic downturn. Alongside rapidly rising investor housing credit, housing prices were rising and household debt was growing at its fastest pace in around a decade. This presented the risk that if income or housing prices subsequently fell, highly indebted households might react with a sharp reduction in consumption.

The rest of this section provides more details on the 2 quantitative limits.

2.1 The investor mortgage limit

APRA announced the investor limit on 9 December 2014 through a public letter to ADIs. Letters to ADIs do not constitute binding prudential requirements, but can present information about how APRA will exercise discretionary regulatory powers. The letter states that:

… annual investor [housing] credit growth materially above a benchmark of 10 per cent will be an important risk indicator that supervisors will take into account when reviewing ADIs' residential mortgage risk profile and considering supervisory actions. (APRA 2014)

In the following months, the expectations that banks comply with the limit were ramped up. APRA (2019b, p 13) writes that:

… over the first half of 2015, APRA supervisors took coordinated action to reinforce the objectives of the benchmark with all ADIs and obtain action plans for meeting it … In a number of cases, supervisors agreed on an appropriate timeline for meeting the expectations with individual ADIs …

By August, the 4 largest banks had each indicated to the RBA that they were then treating the benchmark as a hard limit.^[4] The policy remained less strict for small banks with mortgage portfolios of less than $1 billion, which were given a longer horizon to comply.^[5]

The letter to banks also stated that APRA would monitor other types of banks' lending. The other types included high LVR and high LTI mortgages, IO mortgages, mortgages with very long terms, and mortgages that did not perform well on borrower affordability tests. However, no quantitative requirements were stated for those mortgage types, then or later. We focus on the effects of the quantitative limits, but also analyse policy effects by LVRs in Section 7.1.

APRA removed the investor limit in April 2018, conditional on banks' boards providing assurance of ongoing safe lending practices. The limit was removed due to the actions banks had taken to improve the quality of their lending (APRA 2019b). It was replaced with longer-term tools for distinguishing between mortgage products in their systemic risk contributions. In February 2018, APRA released proposed changes to ADIs' capital framework that would impose higher risk weights for investor mortgages than occupier mortgages, and reaffirmed its proposal in December 2020. Additionally, in July 2019, APRA released a revised Prudential Practice Guide that outlined APRA's interpretation of prudent practices in residential mortgage lending (APRA 2019a), to supplement APRA's legally enforceable Prudential Standards.

2.2 The interest-only mortgage limit

APRA announced the IO limit on 31 March 2017 in another letter to ADIs. The letter asked banks to limit new IO lending to no more than 30 per cent of total new mortgage lending. From the start, the expectations were stricter than for the investor policy. The letter states ‘APRA supervisors … will likely impose additional requirements on an ADI if the proportion of new lending on interest-only terms exceeds 30 per cent of total new mortgage lending, over the course of each quarterly period’, and ‘APRA expects all ADIs to immediately take steps’ (APRA 2017). IO mortgages were a concern in part because the lack of amortisation keeps the borrower's leverage higher for longer, and in part because IO mortgages automatically convert to P&I loans, usually after 5 to 10 years, which can, if the mortgage is not refinanced to another IO loan, bump up the repayments and can cause distress for the borrower (Kent 2018).

APRA also noted it would monitor other metrics of risk in banks' new mortgage lending, in a similar manner to the guidance accompanying the investor limit. Again, there were no quantitative requirements on those metrics. In December 2018, APRA removed the limit, stating that the policy had served its purpose.

Footnotes

ADIs stands for authorised deposit-taking institutions. In most instances, this paper loosely refers to ADIs as banks. [3]

This was communicated in the RBA's regular liaison with banks. [4]

These banks are below the size threshold for inclusion in our sample (Section 3.1). [5]