Bank of banks warns of ‘unusually large’ house price growth

One of these is the rapid rise in house prices recorded across the world over the past year, including in Australia.

Noting that while a rise in house prices during a recession is not unprecedented, partly due to accommodative monetary policy, BIS referred to recent increases as “unusually large”.

It observed that house prices rose by an average of 8 per cent in 2020 in developed economies and 5 per cent in emerging markets.

According to the bank of banks, several factors have led to this swell, including pent-up demand, a change in housing preferences as people reassessed commuting costs, and record-low interest rates.

“Not only do lower interest rates make it cheaper to service a home loan, they also raise the present value of future housing services, which increases the value of home ownership relative to renting,” the BIS explained.

Alerting to a consequent build-up of household vulnerabilities, the BIS also flagged the rise of “intertemporal trade-offs”, noting that while price growth may bolster the economy, it is often accompanied by a pickup in credit growth. And credit growth can lead to a banking crisis and an even deeper recession.

“This apparent divergence between house prices and their fundamental determinants could make them more vulnerable to larger corrections in the future, especially if financial conditions become less accommodative,” the report cautioned.

“In recent months, central banks in Australia, Canada and Switzerland, among others, have highlighted the risks from soaring house prices in statements accompanying their monetary policy decisions, while the Reserve Bank of New Zealand has been tasked with considering the impact of its decisions on house prices when setting policy,” the BIS said.

As such, it is confident that “some central banks may have little choice but to tighten”. And while some central banks may be reluctant to lift rates, the BIS warned that postponing normalisation beyond a certain point may actually make it harder.

“Keeping monetary policy accommodative to support fiscal consolidation could encourage a further build-up of financial imbalances in the private sector,” the BIS said.

“Given the exceptionally low service burdens, it could also induce further increases in government debt. In both cases, the economy’s sensitivity to higher interest rates would rise,” it added.

Detailing the possible need to for prudential policies, the BIS warned of two challenges – ensuring banks are sufficiently well capitalised to absorb potential losses and helping to contain the build-up of financial imbalances, particularly in housing markets.

However, the BIS warned that “macro-prudential policies are ill-suited to dealing with a sudden worsening of conditions, given their long implementation and transmission lags”.

“The exact mix of tools and their sequencing will depend on country-specific features and economic circumstances,” the BIS said.

“Determining the most appropriate mix and sequence of tools to deploy promptly during periods of heightened financial market stress is a key practical challenge.”

Tags:

• Latest

Share