Debt to income idea is dumb

I like it when I’m right. I feel a tingly sensation that causes a smug smile.

A few days back I said the debt to income idea was dumb. Because it is.

And I said that its bad for property projects. Turns out others all think the same.

Reserve Bank debt-to-income caps would be disastrous for house buyers and the residential and building sector, says a real estate chief.

Connal Townsend, Property Council chief executive, said any new restrictions would worsen housing affordability and his organisation was “terribly concerned” about it.

Last week, the Reserve Bank raised the possibility of introducing debt-to-income ratios after it warned the Government that resurgent house prices were a risk to the economy.

Governor Graeme Wheeler said the average house price in Auckland was nine times larger than the average income, making it one of the least affordable metropolitan markets in the developed world.   

The bank has raised the idea previously but said last Wednesday it was “seriously considering” the measure.

If the regime comes in, people could be stopped from borrowing too much compared to their incomes. That is already operating in Britain, where most buyers cannot get a mortgage higher than 4.5 times their annual earnings.

But Townsend said any such move would not only kill off buyers’ hopes, but also be very detrimental to the apartment and house-building sector.

“We are terribly concerned about the unintended consequences more limitations will have. Restricting borrowing does not change the value or shortage of land,” Townsend said.

“This policy could stop what we need most, which is building more houses in Auckland.

“Limited land supply and speculation have caused buyers to become price-takers with demand becoming relatively inelastic. Monetary policy tools should be aimed at changing that, not pricing more people out of the housing market.”

It’s simple. Supply, supply, supply.

I struggle to understand by supposedly smart people like Nick Smith fail to understand this.


– NZ Herald


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  • dennis

    The GFC started in part due to U.S. banks lending 100 percent mortgages. When the value of the home dropped the mortgagees had negative equity. This was a disaster for the affected home owners. Is the reserve bank trying to protect those that are planning to over mortgage themselves?

    • Totara

      Those ‘home owners’ didn’t actually own their homes. They are known as ‘mortgagors’ instead. There is a big difference.

      As to who the Reserve Bank is protecting, it is the banking system itself rather than either savers or debtors. Check out their ‘Open Bank Resolution Policy’ and it all becomes very clear.

  • Totara

    In a sane world, the amount of debt that a lender is willing to put at risk with a debtor would be limited by a careful evaluation of the debtor’s credibility (or creditability). Money to be lent out was a something scare, that somebody else had previously worked hard for, and didn’t want to see wasted or lost.

    But in today’s world, economists have been enamoured of Modern Monetary Theory (MMT), perhaps more accurately known as the ‘Magical Money Tree.’ Those $$ that are lent by banks into people’s accounts for mortgages were never earned. They were mostly created on a keyboard, with just a small proportion earned by a worker/saver to provide the system with a veneer of respectability.

    If savers are unhappy with the way that they are being ripped off through pathetic returns on their savings, then they need to realise that the power to change these circumstances lies completely within their control. Everybody else (including Connal Townsend and Graham Wheeler) is either just a spectator or bluffing, whether they like it or not.

    • Miguel

      I used to have concerns about ‘fractional reserve banking’ and made-up money, etc, but it’s nothing to worry about. All the money that banks lend is money they’ve in turned borrowed, normally from overseas. The fractional reserve (much lower than 10%, by the way) is just cash-like reserves to cover defaults – it’s an after-thought, not some kind of money-multiplier. Banks borrow deposits, lend ’em out, and by law, keep a tiny amount aside to cover losses.

      Reserve/central banks are the ones who can create new money (being government-related), but the rest borrow from each other or depositors to do their lending.

  • Simon

    Debt to income or debt to GDP or debt to some sort of measurable level with a means to pay down that debt is dumb from the point of view of those who wish to get paid by that debt – sure. However – by continuing to issue debt at unsustainable and unpayable levels then that pile of debt grows larger and larger. The means that debt issuance was traditionally restricted was by have the market determine interest rates – but remember – this mechanism has been broken ever since allowing central banks and governments to artificially set interest rates, which of course blows bubbles in economies. Returning to normalised interest rates however will prick these bubbles and mean the interest of private and public debt will make that unservicable which will mean defaults. Also normalising our interest rates while the rest of the world continues to keep theirs low, zero or negative will mean our currency will value up destroying our exports. Until the larger picture is dealt with then don’t expect any sort of “fix” for the housing market.

  • Cadwallader

    There’s nothing new about this idea. In the old days….1970s the typical first mortgagee wouldn’t allow buyers to borrow where the repayments were more than 30-35% of household income. I have no recollection of whether this caused a drop in the values of properties or not.

    The problem I have with central solutions are that they are intended to fix a problem in the AKL market (whether they do or do not I don’t know) but also sedate the market in the rest of the country. Regionalised restrictions may be the answer?

    • InnerCityDweller

      Correct and the operative word here is “repayments”. Repayments is actual money out of back pockets. The argument here however is income to property value (it used to be and should be income to debt).

      Borrowing $500K at 10% or $1m at 5% is still the same amount of repayment, so as long as that is covered (and banks make doubly sure these days) what’s the problem.

      • Cracker1963

        Which school did you go to? $500k at 10% over a twenty year term is $57,901.30 pa in repayments, $1m at 5% over twenty years is $79,194.69pa, so definitely NOT the same amount of repayment.

        • InnerCityDweller

          Probably didn’t make it clear what I was aiming at. I wasn’t talking compounding interest, simply because that, like income, keeps changing over time and is virtually impossible to predict in real terms (unless it stays put). I was aiming at the time of the initial uptake.

  • Tom

    I would disagree. It seems to me to be ridiculous to get a loan tied to what you want, not what you can afford. It has been that way in the UK since I bought my first house in 1970. When I did it was 3 times my salary + my wifes salary.

    • It’s not the idea of limiting how much money people can borrow that is the problem. The issue is that Auckland and New Zealand has property development projects that are constructing thousands of homes and apartments that would potentially at risk of collapse if a loan to income ratio is applied.


      Because people have signed up today to buy these houses and apartments that will take the next 2-4 years to complete. 10% deposits have been paid and the purchasers have pre-approvals for mortgages based on criteria applied currently.

      Change that criteria and it’s a sure bet that most people will no longer qualify to get a mortgage. In two years time when a project finishes how many people will fail to settle? How many developers will go bust because of the extent of failed settlements?

      I’m picking a substantial number – and here is why – most houses and apartments are purchased with deposits of 20% or less and most houses and new apartments are selling in price ranges that mean most people will not qualify (assuming that is because the RBNZ has set in place a loan to income ratio). With Auckland house price average at 10 times average income and most new projects selling at similar values its not rocket science to see that the consequence of such a policy will be massive losses incurred on failed projects. For projects to be successful the buyers do have to settle.

      • Simon

        Central bankers not understanding out the consequences of what they do? Not unheard of…

      • MrHippo

        But remember the average income does not buy the average house.

      • Bryan

        my family member had a long discussion with reserve bank the other day and dropped your bomb shell into their thinking and they admitted they had not thought those situations through . The real pressure could be eased by simply saying to new arrivals into the country, you can settle anywhere but Auckland in this country at the moment.
        Economically we have too many eggs in one basket and a basket case it is, when other parts of the country including rural are crying out for workers, and houses are selling for half or less that of Auckland.

    • Doug

      This is locking the barn door after the horse has bolted. Maybe 5 or 10 years ago it would have had the wanted effect, but today it is locking people out of a home of their own

  • Ross

    Shouldn’t it be up to the lender?

    Legislating debt-income keeps more people out of owning a house, not the other way around.

  • Anthony

    Setting this rule at say 9 times would have the effect of pushing buyers into outer suburbs, and those on the lowest incomes would have to leave if they ever wanted to buy. Prices in richer suburbs would stagnate thou. Anything less than 9 times and the effect would be much stronger. Not having any rule risks prices climbing until the slightest interest rate rise causes a crash.

  • shykiwibloke

    Many of these suggestions appear to operate from the assumption that having a place to Iive is optional, is a discretionary activity. If you aren’t paying a mortgage you will be paying rent, so that someone else can pay a mortgage/ get a market rate of return. If the rents skyrocket then people will do crazy things with finance and you won’t stop it.
    Stop playing with demand side unless the idea is to forcibly create slums and low rent trailer parks. Free the land so everyone can have somewhere to live. Basically should be core labour policy from the helping hand perspective, and should be core policy from the right from a freedom in property rights perspective.

  • Superman

    You can’t understand why the so-called smart people don’t understand. It’s because they are not so smart and are control freaks. Stopping the rise in house prices in Auckland and handicapping the whole country is like trying to stop the tide coming in. Let the banks decide how much they want to lend to an individual, it’s their money. Keep the Reserve Bank and politicians out of it. If the bank does due diligence and decides it can lend to someone, so be it. The market will decide when prices have gone far enough. Limiting lending to a percentage of income will cut more Kiwis out of the market (just as making the deposit higher did) and allow more foreign buyers in because a lot of them don’t need to borrow.

  • Vutekno

    I would have thought that banks already manage this when they assess whether to loan money as a mortgage for a house purchase. They are only going to loan to people that can show that they are clearly able to service the repayments.

    I just don’t see why this is all so hard it’s a question of supply and demand in the end. Just build more houses already!

  • waldopepper

    you simply cant change the geography. auckland is at the north island’s tiny waist. the sea creates a natural shortage of land on 2 sides. the article on WO earlier today discusses why building is so expensive. perhaps if the consenting process was easier, and council fees more affordable, more houses would be built as auckland sprawls into the near north and down towards mercer and hamilton. its not rocket science. i swear to god we now live in a world where our leaders and govt bodies seem to go out of their way to make things complicated. anything to avoid just getting on with the bloody job.

  • axeman

    And surely the Bank must ensure the debt is servicble by the borrowers so a cap is already in place in regards to the amount they can afford to repay under the Responsible Lending Code

    • Barnacles2

      Yes experiencing this first hand currently. Want to refix the mortgage at a nice new low rate, and get a bit on revolving credit. Nope, can refix but not extend the borrowing due to income, dependants etc, despite having 60%+ equity in the property.