Tuesday, April 23, 2013

The Effect of Overt Macroprudential Policy and Interest Rates on Borrowing

A quick and dirty gauge is to ask, given current interest rates and rates used for loan qualification requirements, what is the amount of loan a borrower can get via a conventional mortgage? To answer this, we can normalize for income level and debt-service ratio and look at the effects on maximum loan qualification for both insured and uninsured loans. I have normalized the results to January 2000:
The amount of loan has depended upon macroprudential policies relating to maximum amortization lengths and minimum downpayment ratios. These two have tracked well until 2010 when the government required using posted, not discounted, rates to qualify for government-insured loans. The most recent overt macroprudential measure was to reduce the maximum amortization for an insured loan to 25 years from 30 years. I have assumed uninsured loans can still get 30 year amortizations. 

This is for a generic "prime" borrower; DSR and other qualification limits will be imposed based on lenders' internal risk management policies (that have notably changed of late) that will not show up in this graph above.

Nonetheless it is stark how accommodative uninsured loans are in the current environment, and how stiff the "posted" rate has been since mid-2012 despite the significant pressures on yields. Finance Minister Jim Flaherty recently took to strong-arming banks to ensure they did not change their posted five-year rates. If banks were allowed to lower the posted rate the red line on the graph would be higher.

As it stands in the current environment an insured borrower can qualify for about 33% more loan than was the case in 2000, income-adjusted. An uninsured borrower can now qualify for an impressive 65% more loan.

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