• APRA, Australia’s banking regulator, introduced restrictions on interest-only mortgage lending in March last year.
• New data shows the proportion of interest-only lending as a percentage of new mortgage plummeted in the December quarter last year.
• The RBA says the measures have been “helpful in containing the build-up of risk in household balance sheets”.

Australia’s banking regulator, APRA, introduced tighter restrictions on home loan lending just under a year ago, limiting the proportion of interest-only lending to 30% of new mortgages.

It was done in an attempt to reduce what were perceived to be growing risks stemming from an increasing number of borrowers not paying down the principal on their mortgage debt.

Following years of rapid house price growth in Sydney and Melbourne in the years following the GFC, the burgeoning use of interest-only lending hinted that some borrowers were speculating on further strong price growth, increasing the risk to lenders, along with the broader Australian economy, if house prices were to suddenly decline.

Falling prices and high mortgage debt, leading to the potential for borrowers experiencing negative equity, would not be an ideal outcome, especially on a larger scale.

Well, around nine months in, the restrictions on interest-only lending appear to be working.

As seen in the chart below from Westpac Bank, the share of new and existing interest-only loans as a percentage of total housing loans fell sharply in the final three months of last year.

“The share of interest-only fell to just 15.2% of new loans in the quarter, and to 32.7% of the stock of loans,” said Matthew Hassan, Senior Economist at Westpac. “Both shares were closer to 40% a year ago.”

The moderation in interest-only mortgages also coincided with a sharp reduction in auction clearance rates and price growth over the same period, suggesting that the tighter restrictions were acting to cool the Sydney and Melbourne markets, those traditionally favoured by investors.

Today’s data will likely please policymakers at the Reserve Bank of Australia (RBA) who were becoming increasingly concerned about the lift in interest-only lending in the period before following APRA’s intervention.

When the RBA Board met earlier this month, members noted that “APRA’s supervisory measures and tighter credit standards have been helpful in containing the build-up of risk in household balance sheets, although the level of household debt remains high”.

That suggests it’s becoming more comfortable that financial stability risks are being addressed, even if there’s still more work to be done.

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