The Reserve Bank says risks to banks from the housing market have faded as prices in Sydney and Melbourne recover, but it has warned "rapid" property price growth could re-emerge in several years' time due to potential supply shortages.
In its six-monthly check-up on the financial system, the RBA on Friday said the bottoming in the housing market had improved the positions of both highly-indebted households and banks.
After four months of rising house prices in Sydney and Melbourne and "tentative" signs turnover may be bottoming, it said banks were less exposed to large numbers of customers falling into negative equity.
But following sharp falls in approvals for future building construction, the central bank also highlighted the longer-term the risk of a future housing shortage, which could re-ignite rapid price growth down the track.
"In the near term, risks from falls in housing prices have reduced but still exist. The uptick in housing demand and prices in Sydney and Melbourne has reduced the risk that sustained falls in housing prices could lead to widespread negative equity and so potential losses for lenders," the RBA said in the Financial Stability Review.
"Further out, there are potential risks from a resurgence in rapid housing price growth. The fall in housing demand and prices over the past couple of years, particularly in Sydney and Melbourne, as well as tighter credit supply for developers, has resulted in residential building approvals falling sharply."
"With population growth projected to remain strong, ongoing weakness in building approvals would likely result in a shortage of new housing in several years' time with a resulting risk of rapid growth in prices that would stimulate stronger debt growth."
The review said that overall, Australia's financial resilience had been steadily improving, as banks were better capitalised, and lending standards had lifted.
Nonetheless, it also highlighted a wide range of key risks including high household debt, rising mortgage arrears, and "elevated" global vulnerabilities including the trade war between China and the US.
After banks did not pass on the Reserve Bank's latest 0.25 percentage point cut to borrowers this week, prompting claims lenders were "profiteering," the RBA said lenders had passed on most of the recent cuts.
It described the Australian banks as "very profitable," while adding that profit margins were forecast to decline in the sector as rates fell, because some of the bank deposits were already at zero and could not be cut further to offset lending rate declines.
Even so, the RBA said the pressure on banks' margins from low interest rates would be "smaller than in other countries" because most deposit rates were still well above zero.
About 40 to 50 per cent of household and bank assets are tied up in housing, and the RBA said risks in this area had receded as demand picked up. The number of new apartments being completed in Sydney and Melbourne had also peaked, it said.
Household debt, at 190 per cent of household income, remained "high," but the RBA took comfort from the fact that about three quarters of the debt is owed by the top 40 per cent of income-earners.
While most were making loan repayments, it said the rise in borrowers who were behind on loan repayments was "notable," and the ratio of non-performing loans had now surpassed its previous peak following the global financial crisis.
After banks have tightened lending standards significantly, the RBA said this had improved loan quality, but added "it is important that banks are not overly cautious in the implementation of current lending policies."
** Source Clancy Yeates - Sydney Morning Herald **