The duties of a central bank are ever expanding: Lender of last resort, financial regulator, macroeconomic manager… affordable housing agency?
That’s the case now in New Zealand, where prime minister Jacinda Ardern has asked the Reserve Bank of New Zealand to consider the state of the housing market there as it makes policy decisions; it’s a step back from an initial plan to make housing prices part of the bank’s primary mandate.
The median house price in New Zealand has soared past NZ$700,000 ($502,000) in the last year, up from less than NZ$600,000 ($430,589) before the pandemic. New Zealand’s increase in home prices of around 20% over 2020 outstripped a 5.4% increase in US home prices that has also raised eyebrows.
In response to the pandemic, central banks in both countries have cut interest rates, leading to more available home credit which has contributed to surging housing prices. That, in turn, makes it difficult for new buyers to obtain homes and contributes to homelessness.
But affordability isn’t a new problem in New Zealand, or indeed the rest of the developed world. Ardern herself was first elected in 2017 on the back of promises to tackle housing affordability after years of rising home prices. That reality suggests that any economy looking to make housing plentiful will need to look beyond interest rates.
Another monetary policy innovation?
Some are comparing New Zealand’s new approach to another innovation first piloted there—the now common central banking practice of issuing inflation targets. That tool has helped “tame” inflation in recent years, to the point where some economists argue we actually need more.
But in an era of ultra-low interest rates (which may be the inevitable destiny of money), others see a bigger problem with asset inflation. Low rates make it easier to invest in real estate or corporate securities, which stimulates economic growth, but also inflates the value of the assets beyond what they might “reasonably” be worth.
Low interest rates played a role in inflating the US housing bubble before the 2008 financial crisis, as well as in the apparently relentless bull market in US stocks. Raising interest rates in any market will likely lead some investors to abandon assets for debt securities, and lower the number of people who can borrow money to bid on houses and drive up their prices.
Can central banks really make houses cheaper?
Monetary policy is unlikely to be the critical tool to ease New Zealand’s home prices. If rates are made tighter than they might otherwise be in order to pop a housing bubble, the entire economy could suffer. If growth slows and unemployment rises, it’s likely the price of homes will go down, but is that really what New Zealand policymakers want?
Other factors outside the central bank’s remit may prove more important.
In many developed economies, house prices are as affected by land-use regulations that limit the size and style of homes that can be built, which create artificial housing scarcity that in turn drives up prices. A 2017 New Zealand government study (pdf) found that rules around building could account for 15% to 56% of a home’s cost.
And, in the US before 2008, lax regulation that allowed people to buy homes they could not afford helped drive speculation that inflated the housing bubble. That’s one reason why the head of RBNZ has been pushing for the power to set debt-to-income ratios on new home loans, which is similar to debates in the US over the intersection between borrowing rules and affordability.
Directing central bankers to pay attention to the economic metrics of everyday life is always a good idea. But the problem of housing affordability is too complex to solve by tweaking interest rates alone.