APRA Tees Up Australia for Credit Crunch

Well, well, well, Australia. Haven’t you found yourself in a pickle?

The Reserve Bank of Australia (RBA) kept the cash rate at 1.5% on Tuesday, which was widely expected.

The media release included the usual sort of dry insight the RBA tends to dole out, saying the Aussie dollar is high and that it needs to fall to support the economy: ‘…an appreciating exchange rate would be expected to result in a slower pick-up in economic activity and inflation than currently forecast.

Another Problem

The RBA also pointed out another problem plaguing the economy — the lack of wages growth — saying this was part of a bigger global trend, in addition to persistently slow inflation growth.

However, in an odd move, the RBA mentioned that higher prices for electricity and tobacco are expected to boost CPI inflation.

Given that roughly 11.9% of the Australian adult population smokes — and the number decreases every year — the RBA reckons that this small sector of the population will boost the CPI data.

Yet it’s not the smokers contributing to higher inflation. Rather, it’s the federal government hitting cigarette smokers with ever-higher taxes each year.

While we’re looking for inconsistencies in the RBA’s media statement, I’m surprised they would use such positive language to describe the effect that higher electricity prices would have on the consumer.

This is why people rarely have anything nice to say about central bankers. Higher electricity prices may indeed boost the inflation figure to more acceptable levels by the RBA’s standard. Yet higher energy prices act as a tax on the consumer.

The more our day-to-day living costs increase — on things like food, petrol, and electricity — the less discretionary income we have to spend in our heavily consumption-driven economy.

In between houses and dug-up-rocks, 70% of Australia’s economic growth comes from services. If you’re spending more money to keep the lights on at night, you’ll have less money in your pocket to spend on other items: travel, retail, and the odd smashed avocado on toast. All sectors that rely on consumer spending habits.

Yet the most noteworthy remark from the RBA came at the end of the statement, when the central bank decided to comment on the elephant in the room — house prices — noting:

Investors in residential property are facing higher interest rates. There has also been some tightening of credit conditions following recent supervisory measures to address the risks associated with high and rising levels of household indebtedness. Growth in housing debt has been outpacing the slow growth in household incomes.

Here, the RBA have firmly disowned the house-price problem. The supervisory measures they’re talking about are the pending regulations from the Australian Prudential Regulation Authority (APRA).

Over the past few months, APRA has decided that banks must keep interest-only lending to no more than 30% of all new loans, and restrict investor-loan growth to below 10% per year.

When APRA announced these changes back in March this year, they created another problem. They essentially encouraged lending in Australia’s ‘shadow banking’ sector.

Australia’s shadow banking sector includes a group of second- and third-tier lenders. In other words, the sort of lenders that people with a less-than-perfect credit profile would use for a home loan. Generally speaking, many lenders in the shadow banking sector are considered non-authorised deposit-taking institutions (ADIs).

So it’s suddenly dawned on APRA that cracking down on Australia’s Big Four banks has seen lending among second- and third-tier lenders increase. Until a month ago, this fell outside of APRA’s regulatory reach.

Knowing this, APRA is determined to change things, with The Australian reporting a couple of weeks ago:

Currently APRA only has powers to regulate authorised deposit-taking institutions, which look after customer money that has been deposited with a lender. The shadow banking sector has remained outside the scope of the regulator, even in cases where the sector may be materially undermining the strength of the financial system.

APRA has launched several new measures aimed at limiting excessive lending in the Australian mortgage market, following rapidly rising house prices and surging household debt.

The regulator has made banks stick to strict limits on the amount of lending to investors and the rate of interest-only lending, and follow rules regarding borrowers with small deposits. But the move to de-risk the financial system has been somewhat ineffective as borrowers skirted tougher lending restriction by flooding unregulated non-banks with loan applications.

The argument being put forward is that APRA needs to have oversight of Australia’s entire lending sector. The idea is that, if APRA can control the entire mortgage market, they’d gain greater oversight of ‘risky’ lending practices.

Total credit provided by non-ADIs sits at 6%. However, Reuters estimates non-ADIs account for only 1% of all Aussie homes loans. Is this tiny percentage of the $1.6 trillion mortgage market really worth chasing? It appears to be an awful lot of regulation oversight for a market minnow.

You have to wonder what APRA is trying to achieve. I can’t help but feel they may be setting up the Aussie market for a credit crunch in the future. In other words, they’ll limit lending to a point where it drives up borrowing costs for consumers, restricting the flow of debt to settle outstanding projects.

For example, apartments that were approved in 2014–15 are only just being completed now. In that time, bank regulations on lending have changed. Major banks no longer finance apartment builds smaller than 50 square metres in size.

Have a look at this chart:

Source: The Australian

Towards the end of 2016, there was a substantial increase in high-density building approvals.

It could be another year or so before these buildings get built. In that time, precious square metres will be sold off-the-plan to investors and owner-occupiers. All with a settlement date 18 months away from now.

No Guarantee

Yet there’s no guarantee that what a bank will lend today won’t change in 12 months’ time.

Point being, what happens at settlement time? How will changes in bank regulations — and greater oversight from APRA — affect the settlement process on major construction projects?

A sudden change in what projects banks will finance could have a catastrophic effect on developers. This could lend to large-scale business collapses, followed by nationwide unemployment.

It’s easy to forget that almost 10% of Australians are employed in the construction and trade industry. Yet the number of people employed in roles that directly and indirectly relate to Australia’s housing sector is significantly higher than the 1.1 million people employed in the building sector.

Look, no one likes shadow lending systems. However, second- and third-tier lenders have their place in supporting lending where the big banks won’t, or can’t. But, given the miniature size of this sector, targeting it may not be the answer to shuffling out the risky part of the banking system.

Quite frankly, out-of-control lending practices from the big banks already contain the majority of risk. Chasing non-ADIs for greater oversight might be the equivalent of doing something when the damage has already been done.


Shae Russell,

For Money Morning


Since starting out in the financial markets over a decade ago, Shae has extensive experience across various aspects of the industry. Shae cut her teeth in the derivatives industry, teaching clients basic trading techniques with technical analysis.

Joining Fat Tail Investment Research eight years ago, Shae has worked across a number of publications, such as Australian Small-Cap Investigator, Gold Stock Trader and Microcap Trader. She’s spent the past two years however, honing her macro analysis skills alongside Jim Rickards, showing Australians how to invest and profit form global macro trends.

Drawing on her extensive experience, Shae is a contributor to Money Morning, and lead editor of sister-publication Markets & Money, where she looks at broad macro trends developing around the world, combining them with her distaste for central banks and irrational love of all things bullion.

Money Morning Australia