House price slump spells trouble for Aussie banks

A credit rating agency cautioned banks to stay on their toes, as a sudden house price slump could put them in real danger.

A report by Moody’s Investors Services said Australian banks, as well as those in Sweden and Canada, may face higher loan losses should house prices drop.

“The risks to banks have risen a lot in the last couple of years because households have taken on more debt. People have overextended themselves," Moody’s vice president Francesco Mirenzi said, as quoted by Domain.

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He mentioned that the housing market may have already started turning in Sweden, where prices have already hit a 144% growth since 2000. Moody's expects Australia and Canada to stay in the growth path over the next year, although at a slower rate.

In comparison, Australia has already seen a 113% growth over the last seventeen years.

"We expect from all three countries that markets will see house prices flatten or fall in a mild way. If that happens with an economic impact like people losing their jobs or rising interest rates…we’re going to see more people unable to pay their mortgages,” Mirezi said.

While banks can limit losses on mortgages with substantial correction standards, they will be exposed to a drop in consumer and corporate loans. Moody’s stressed that Australian households are amongst the world’s most highly indebted and they would likely have greater difficulty handling adverse economic developments.

According to Sarah Hunter, head of head of Australian Macroeconomics at BIS Oxford Economics, price slumps could spell a real negative impact on the spending habit of mortgage holders.

She pointed out that the main concern with a big correction is that a mortgage in Australia will remain as it is regardless of how prices change.

"If prices drop and your mortgage is more than what the house is worth, that can weigh on households and how much they spend," she said.

Hunter said at a national level, an average of 5% house price decline is expected over the next 18 to 24 months. 

However, she said this rate is not massive enough to put the banks at real risk, stressing that the curbs to interest-only loans laid out by the Australian Prudential Regulation Authority (APRA) earlier this year were boosting the defences of banks.