Monetary policy will still need mates

Everyone in this anecdote has either died or is in another part of the world, and it goes to the heart of why I feel so uncomfortable about the hue and cry about the impact of lending restrictions on first-home buyers. Otherwise, perhaps I wouldn't use it.

Back in the 1980s a colleague's son bought a house in Britain just before a housing bubble burst. In his mid-20s, he was suddenly sitting on a house worth far less than he'd borrowed.

Reasons for suicide should never be lightly ascribed, but there was no doubt in my colleague's mind that his son had taken his own life because of the emotional and financial impact of that loss.

OK. An extreme example. For a more dispassionate view, look at the Case-Schiller Index of US housing prices. Between late 2006 and 2009, the average value of American homes fell by a third.

What if New Zealand were caught in that kind of turmoil?

Say a happy new home buyer pays $400,000 for a house today. With $80,000 of their own money, they put down a 20 per cent deposit and borrow the other 80 per cent, or $320,000, to make a loan-to-value ratio of 80/20.

If a third of the value of that property were wiped in two years, the borrower will barely have dented the capital owing on a typical table mortgage, but has lost $132,000 on the original purchase price.

They are now $52,000 under water. Destabilising stuff.

If this coincided with an increase from today's historically low interest rates, the buyer would also face higher monthly mortgage repayments.

So maybe that will never happen, but it's a legitimate concern when Aucklanders are routinely paying seven times average annual income for houses, one of the highest such ratios in the developed world.

And because it's happened recently elsewhere and will happen again, it's an issue Reserve Bank Governor Graeme Wheeler and his team are paid to stay awake at night worrying about.

And given the way house prices are bounding away in our two largest cities, they're not just worried but also preparing to use new macro-prudential tools that would limit the amount of lending at elevated LVRs, perhaps as early as next month.

Note the language: it is the amount of lending, rather than preventing any lending at all, that would be restricted at high loan-to-value ratios.

That might mean that instead of LVR lending accounting for around 30 per cent of all home lending by banks, only perhaps 10 per cent would be allowed at that level or higher.

That wouldn't stop banks prioritising first-home buyers for high LVR loans if they choose to. But that seems unlikely. A first-home buyer is not as good a credit risk as a previous borrower with a track record.

No wonder the banks, who have been lobbying furiously on this issue, would rather the Government exempted first-home buyers from any new restrictions.

At one stage, it looked as if this might happen, after Prime Minister John Key went out on a limb to insist such a solution should be possible. The RBNZ quickly said "no".

Since then, it's rumoured the Treasury's been examining whether first-home buyers could make larger one-off withdrawals from their KiwiSaver accounts than the rules currently allow.

Labour points out that for most, the sums involved won't make much difference to the gap between their current savings and the larger deposits that tougher lending restrictions would require. It blames the Government for failing to build enough affordable homes and introduce a capital gains tax to curb house price inflation.

Easy enough to say when you're in Opposition, but neither of those things would be an overnight fix. Easy enough for Labour not to mention it also supports macro-prudential tools and shares the fears for over-leveraged first-home buyers in the event of financial crisis.

Of course it will take more than knob-twiddling by the central bank to fix an under-supply of houses.

However, the blame for that lies more with Auckland city planners, who have only recently been bludgeoned by the Government into agreeing that such a problem exists.

Efforts to free up land, improve construction sector productivity, keep interest rates low by controlling government finances, and create special housing areas are all initiatives that drive in the direction Labour wants.

The only thing missing is the capital gains tax, which would have no price-curbing impact on the behaviour of first-home buyers anyway, since the tax would be aimed at speculators.

The emotive appeal to the needs of first-home buyers makes compelling politics. But if the boot were on the other foot, and first-home buyers were going to the wall after over-borrowing to get into over-priced Auckland homes, where would the political advantage lie then?