The overheated Dutch housing market has to contend with multifaceted and urgent issues.Read more
Decisive action needed with regard to interest-only mortgage loans
Over half of the aggregate Dutch mortgage debt consists of loans that do not involve any contractual repayments during the loan term. There is a risk that the households in question may not have the means to repay their debts before or when their loans expire. Lenders must actively alert customers to this risk and help them find a suitable solution. They should preferably encourage customers to reduce the interest-only portion of their loans, for example by pointing out that they may use the financial leeway they get when refinancing mortgages to a lower rate to make extra repayments. This is stressed in the Financial Stability Report, which we published today.
Use financial leeway whenever possible to reduce interest-only debt
Almost 55% of the aggregate Dutch mortgage debt consists of interest-only and investment-based mortgage loans, which do not involve any contractual repayments during the loan term. They must still be repaid when they expire, however. Such loans could cause frictions, for example if households are forced to sell their home at the end of the loan term. Households should take measures in a timely manner to prevent such frictions, and lenders must provide proactive support by drafting realistic repayment plans. Lenders should encourage their customers to limit the interest-only portion of their mortgage credit facility whenever possible. For example, customers may use the financial leeway they get when refinancing loans to a lower rate for making extra repayments towards their interest-only loan or converting it to an annuity-based loan. Several lenders have already adopted policies to assist their most vulnerable customers.
Curtailment of mortgage interest tax relief should preferably be accelerated
The Dutch housing market shows a strong upswing, as well as signs of overheating locally. Several years ago, the economic slowdown and the housing market correction were mutually reinforcing. Similarly, the economic upturn and the revival in the housing market are mutually beneficial at present. This procyclicality may come at unnecessarily high economic and social costs and is related, among other things, to the fact that mortgage interest tax relief and borrowing limits are generous by international standards, due to which mortgage debt in the Netherlands is relatively high. Curtailment of mortgage interest tax relief should preferably be considerably accelerated and borrowing limits should be lowered further to mitigate the risks inherent in high household debts.
Low volatility in financial markets may be a harbinger for a market correction
In the Financial Stability Report, we also point out the risk of a sharp downward correction in financial markets. Financial market volatility is very low, reflecting partly the fact that monetary policy has remained accommodative for many years. The calm prevailing in financial markets may mask risks, however. In the past, imbalances typically built up during periods of low volatility. A sharp correction in financial markets may reveal new vulnerabilities, but well-known vulnerabilities may also return, such as deteriorating debt dynamics in highly indebted European countries as risk premiums go up. With banks being relatively highly exposed to debts issued by their own governments, the negative interaction between banks and governments may resurface.
Stress tests should be developed further
The crisis has placed stress tests for financial institutions more in the centre of attention, which has benefited their quality. Nowadays, stress tests are an important risk identification tool for financial institutions, supervisory authorities and central banks alike. Although no stress test will ever provide full certainty, the further development of stress test is desirable. For example, in addition to solvency effects, they should also be capable of addressing liquidity effects. In addition, stress tests could more comprehensively address the interaction between the financial sector and the macroeconomy.
For more information, please contact Ben Feiertag at +31 6 524 961 42.