Reserve Bank governor Philip Lowe and Treasurer Josh Frydenberg have repeatedly expressed concerns about a Hayne royal commission-induced credit squeeze potentially hurting the economy.

The removal of the interest-only lending cap comes a week after a meeting of the Council of Financial Regulators, where regulators and Treasury officials agreed on the importance of lenders continuing to supply credit to the economy.

"Given the reduction in interest-only lending and the general strengthening of lending standards by banks, APRA has determined that the removal of these industry-wide benchmarks is appropriate," Mr Frydenberg said.

"The targeted actions taken by APRA have been appropriate and effective in enhancing the resilience of the Australian banking system to potential future shocks."

APRA said most banks had now provided it with assurances that stronger lending standards will be maintained, giving it confidence to remove the 10 per cent investor loan growth cap for most banks after this was flagged in April.

Shadow Treasurer Chris Bowen called on Mr Frydenberg to explain "whether or not he has expressed a view to APRA or the Council of Financial Regulators over whether APRA should end its interest-only loans restrictions". He said Labor "will be seeking briefings from the RBA and APRA to discuss recent statements on the economy and changes in policy direction".

Bank shares responded positively on Wednesday. "We think this shows APRA is aware of the potential impact of credit rationing and is now trying to mitigate the risks that are emerging in the housing market," said Morgan Stanley analyst Richard Wiles.


Profit windfall

Some analysts said if credit conditions tightened too much in the months ahead and the economy softened further, the RBA may be forced to consider an interest rate cut next year.

But BetaShares chief economist David Bassanese said APRA's unwinding of the macroprudential controls reduced the chance of an official interest rate reduction any time soon.

"I don't think the RBA really wants to cut rates, and this will help them avoid the need to do that," Mr Bassanese said.

In response to the caps, banks lifted mortgage interest rates to slow demand for credit from investors and interest-only borrowers and to ensure they complied with them, a move that entrenched the dominance of the major lenders.

The Productivity Commission said earlier in the year the macroprudential policies had delivered the banks $1 billion a year in extra profits, and it criticised their limitation of competition by effectively locking in market shares.

APRA chairman Wayne Byres. "Both [lending benchmarks] have now served their purpose of moderating higher risk lending and supporting a gradual strengthening of lending standards across the industry over a number of years." Dominic Lorrimer


The Australian Competition and Consumer Commission said last week the interest-only cap had triggered "accommodative and synchronised pricing behaviour".

While the caps lifted bank profits, they also forced a flatlining of investor credit growth. Growth in housing loans to investors has fallen from a high of almost 11 per cent in the middle of 2015 to 1.5 per cent.

Meanwhile, loans being written on interest-only terms have fallen from almost 40 per cent of all mortgage in 2015 to 17 per cent, according to the Reserve Bank's latest financial stability review.

Interest-only loans were often used by property investors to allow them to benefit from negative gearing tax concessions. High levels of activity from property investors drove a housing boom.

Treasurer Josh Frydenberg: ""The targeted actions taken by APRA have been appropriate and effective in enhancing the resilience of the Australian banking system to potential future shocks." MICK TSIKAS

But this has turned around this year, with house prices in the five capital cities down 6.3 per cent over the last 12 months, and price falls approaching 10 per cent in Sydney and 8 per cent Melbourne, according to CoreLogic data, as banks tightened up lending to investors and many exited the market.

Australian Banking Association chief executive Anna Bligh said APRA's announcement "shows that banks have adjusted lending to respond to concerns around an oversupply of interest-only loans, illustrating a prudential system where both banks and regulators can quickly and effectively respond to a changing environment".

"While banks will continue to lend prudently, today's decision will mean all banks can offer more choice for customers who are looking to buy a house or apartment," she said.


"Increased competition across the industry will mean customers have more ability to shop around for the best deal for them when looking at an interest-only home loan."

Some rate reductions

Analysts said the move could lead to interest rate reductions for investor borrowers. "Interest-only loans were repriced quite significantly in the wake of this regulation, so there will likely be some reduction in rates for these loans," said JP Morgan chief economist Sally Auld.

"But, with dwelling prices still falling – presumably an important driver of demand for an investment property mortgage – and lending standards tighter, marginally lower rates will unlikely result in a quick acceleration in interest-only lending."

Senior bankers said the removal of the caps will allow them to meet demand from investors if they return to the market, boosting competition.

"Markets have cooled significantly around both investors and interest-only loans, and we don't see stronger demand there now being curbed by having those restrictions," said the CEO of CUA, Rob Goudswaard.

Shadow Treasurer Chris Bowen wants to know whether Treasurer John Frydenberg expressed a view to APRA, or the Council of Financial Regulators, on whether APRA should end its interest-only loans restrictions". Alex Ellinghausen

"But as conditions improve, not having the regulatory caps means we will be able to meet the market demand if it returns. The opportunity to work within market conditions is more appropriate than being regulated in certain areas."


Bank of Queensland's group executive of retail Lyn McGrath said customers would be the winners and the removal of the caps would help level the playing field across the Australian banking sector.

"BOQ has consistently expressed concerns about the unintended consequences of macroprudential caps," she said. "By effectively locking in existing market share, the interest-only and investor caps clearly had a detrimental impact on banking competition."

The limit on interest-only loans to 30 per cent of total new loans was introduced in March 2017, after the 10 per cent annual growth cap on investor lending was introduced in December 2014. Both moves were aimed at red-hot property price growth which APRA considered was destabilising the financial system.

Mr Bowen indicated Labor remains sceptical on interest-only loans as a product, with the opposition planning to limit future negative gearing to newly constructed homes should it win power at the federal election next year.

"Interest-only loans can carry greater risks compared with principal-and-interest loans. Because there's no need to pay down principle initially, the required payments are lower during the interest-only period. But when that ends, there is a significant step-up in the required payments, unless the interest-only loans are rolled over," Mr Bowen said.

"For housing investors, the key motivation for using an interest-only loan is clear. By enabling borrowers to sustain debt at a higher level over the term of the loan, interest-only loans maximise interest expenses, which are tax deductable for investors. They also free up funds for other investments."

Assurances on standards

The removal of the 10 per cent investor loan growth cap was announced in April this year, subject to banks providing assurances about the strength of their lending standards.


Rob Goudswaard, CEO of CUA: "But as conditions improve, not having the regulatory caps means we will be able to meet the market demand if it returns." Janie Barrett

"Most ADIs [authorised deposit-taking institutions] have now provided those assurances," APRA said on Wednesday.

In order for the 10 per cent annual growth cap to be removed, APRA asked boards to confirm lending has been below 10 per cent for at least the past six months, lending policies met APRA's guidance on serviceability and, where necessary, lending practices will be strengthened.

The stock of interest-only loans has fallen by 10 percentage points since June 2017 to just under 30 per cent of outstanding loans, accord to the Reserve Bank, as a large number of borrowers switched interest-only loans to principal-and-interest.

APRA said the removal of the 30 per cent interest-only lending cap would apply to the banks that had provided the assurances on the loan growth benchmark, from 1 January 2019.

APRA will continue to ensure an interest rate 'buffer' for serviceability assessments for all loans is at least 2 percentage points above the relevant benchmark rate, and banks use an interest rate 'floor' of at least 7 per cent.

APRA warned the banks that while it has removed the caps, banks "still need to ensure they maintain adequate oversight of the level and type of interest-only lending", consistent with the regulator's prudential practice guide on residential mortgage lending, known as APG223, and the Australian Securities and Investment Commission's responsible lending obligations.