Banks warned to play it safe on loose lending

Getting a mortgage is becoming easier as banks relax their purse-strings but the Reserve Bank is warning them not to return to the risky lending of the past.

At the same time, an Opposition-led banking inquiry has found that banks pocketed up to $2 billion in interest that should have been passed on to customers.

In the depth of the recession, banks moved from lending up to the entire value of a house, to requiring at least a 20 per cent deposit, effectively taking first-home buyers out of the market.

But the Reserve Bank, in its half-yearly Financial Stability Report, says there have been signs of easing lending criteria in recent months, with some banks returning to lending at relatively high loan-to-value ratios. House prices have regained some of the ground lost during the recession in response to a shortage of listings, increased net migration and a lack of houses being built.

But house prices are still high relative to incomes and the Reserve Bank believes price rises will slow "after the current recovery phase".

The Reserve Bank also warns that record low floating interest rates will eventually rise as the economy recovers and risked putting stress on some first-time homeowners.

Homeowners should look to long-term fixed rates, which have risen as high as 8.75 per cent – a "better guide" to the medium term cost of a mortgage.

The lesson from the financial crisis was that the banks need to take a more cautious approach to lending growth during the next economic upswing, the Reserve Bank said.

The results of the Opposition-led banking inquiry made public yesterday found that banks failed to pass on the full reduction in the Reserve Bank's official cash rate, which fell to just 2.5 per cent from 8.25 per cent in 2008.

The Reserve Bank said the banks had been squeezed by the higher cost of borrowing money during the financial crisis.

Banks had also competed vigorously for domestic retail deposits, resulting in higher returns for investors.

However, margins on floating rates appeared to have been increased, partly to reflect rising credit risks.

The Reserve Bank had warned banks that higher mortgage rates could inhibit economic recovery.

Bank profits, dominated by the big Australian-owned banks, fell 40 per cent in the year to June to a collective $3 billion before tax because of an increase in bad loans.