Why are the banks so tight on lending right now?

While some talk up the Australian economy, the fact is loan approvals are down and continuing to fall and people are starting to feel the pinch. The question is, if things are so good, why are the banks so tough?

I’ve heard people say it’s because of the royal commission. While I agree all that extra attention has sent the banks into a bit of a spin, and I’m sure their public relations departments are earning their money right now, I don’t think this is the sole reason for increased scrutiny with lending. After all, the banks’ behaving badly is not exactly a new thing.

Let’s talk about what’s really going on. The capital cities, especially Sydney, have enjoyed very strong property growth over the last ten years. I’ve even heard the word “bubble” thrown around recently. No one wants the equity train to stop, however this level of growth was never sustainable and the banks knew this.

When I ask people, “What is the key influencer with property values?”, many will answer, “Interest rates”.  While this plays a role, the availability of credit is the main determinant.

Real estate agents love auctions, at least they used to. The agent typically gets several qualified buyers to the action, fired up and ready to overcommit themselves. This competition can fuel bidding wars with properties often selling for well over reserve. Locals loved this as it made them feel like their property was suddenly worth more than they thought. True in a hot market, however things are beginning to cool.

Imagine an auction where instead of five or six hot buyers there are now perhaps one or two. The auctioneer can wave his hands in the air all he likes, but if fewer people attend that means less competition, and if there’s less interest that means lower sale prices, it’s that simple.

I’m not saying that less people want to buy, but fewer people can buy because they’re unable to gain finance approval as property prices retract.

Of course, the banks are well aware of this trend and the value of the property is what a mortgage is based on. Imagine a 90% loan with a 20% deduction in property value, not a good look for the bank.

Property developers are starting to feel the pain too. There are many examples of sites that were purchased a couple of years ago where the feasibility of the project was based on values that are simply no longer there. Many people who purchased off the plan a while ago are now faced with the reality of not being able to complete the purchase due the lender not supporting the value. Some developers are sitting on sites as they are either no longer economically viable, or they are unable to secure finance to complete the development. 

In some areas, developers have flooded the market with properties fearing that things may get worse; however this can lead to over supply which often results in reduced values, the very thing the developer was trying to avoid. 

The other issue is household debt. I’m sure you would agree that in the past it was not terribly difficult to secure unsecured loans such as credit cards. Between lenders sending unsolicited letters and emails offering to increase balances without even asking if the person was still generating an income, to bank kiosks at shopping centres manned by commission sales people, many people now have a mountain of debt they simply can’t afford.

It’s now quite common for people with modest incomes to have over $100,000 in unsecured debts.  Given lenders are meant to act responsibly, how is that even possible?  I would suggest they’ve been addicted to the returns and in many cases have put greed ahead of what’s good for their customers.

Wage growth is another area of concern. For many years wages have been static or have even retracted. While many people’s income is not growing, their bills are and this often leads to even more debt just to keep up.

The banks pay lots of money to very smart people to try and predict the future, the goal being that they can adjust policy before it’s too late. What we are witnessing now is such an adjustment as they are fully aware the party may be drawing to a close and they don’t want to be the last one in the room when the lights are turned on.

One positive point to come out of this is the need for skilled mortgage brokers has never been higher. With credit tightening up, I believe more and more people will seek the services of a reputable mortgage professional for assistance. Smart brokers will see the banks’ tough lending behaviour as an opportunity rather than a problem.

John Dickinson is the director of DebtX Mediation Services, a debt mediation company focused on helping people regain financial control through the reduction and elimination of their debts. Learn more at debtx.com.au.