According to Announcement No. 16 [2019] of the People’s Bank of China (PBC), the following policy should apply to the commercial loan interest rates on individual housing loans issued after October 8, 2019:
1. The interest rate on individual mortgage loans for first-time home buyers should not be lower than the loan prime rate (LPR) of the corresponding maturity.
2. The interest rate on loans for second-time home buyers should not be lower than the LPR of the corresponding maturity plus 60 basis points.
3. When applying for mortgages, borrowers may negotiate interest rate repricing period with the banks. The interest rates repricing period should be one year at minimum, and may remain unadjusted throughout the loan period.
The new policy will bring three distinct changes:
1. A Change in Pricing Benchmark:
The pricing benchmark will be changed from the benchmark loan interest rate to the LPR. After this change, the actual mortgage interest rate will inevitably change.
If the LPR after October 8, 2019 is roughly maintained at the current level, the minimum commercial loan interest rates for the first-time and second-time home buyers will be 4.85% and 5.45%, respectively. Previously, according to explicit or implicit emotion regulation, interest rate on the first home loan was generally not lower than 90% of the benchmark interest rate, while interest rate on the second home loan was generally not lower than 110% of the benchmark interest rate, with the calculated values being 4.41% and 5.39%, respectively. Therefore, in theory, the house-purchase costs for high-quality applicants of newly issued mortgage loans will rise.
However, the lowest interest rates are currently available to only a small number of high-quality borrowers in several cities. On average, it is difficult for the mortgage rates of most cities to be at or lower than 4.41% and 5.39%. According to the latest 35-city mortgage loan interest rate data released by Rong360 Jianpu Technology Inc. (NYSE: JT) Big Data Research Institute, 90% or 95% of the benchmark loan interest rate for first-time home buyers is only available in a very small number of cities. In July, Shanghai was the only city with the first home loan interest rate lower than 4.85%, standing at 4.84%, while the average interest rate for first home loan in 35 cities was 5.44%, significantly higher than 4.85%. Moreover, in terms of the second home loan interest rate in July, Hangzhou (5.42%), Tianjin (5.41%), and Xiamen (5.39%) were the only cities with rates lower than 5.45%. Meanwhile, the average interest rate for second home loan in 35 cities was 5.76%, also significantly higher than 5.45%. In other words, in the future, only a few cities will adjust the lower limits of the corresponding mortgage interest rates because of this new policy, while the interest rate levels of other regions will not be significantly affected for the time being. Furthermore, it is worth noting that in recent months, the average interest rates on both the first and second home loans in 35 cities have shown slight upward trends.
2. A Change in Floating Direction:
Previously, the mortgage interest rate could be increased or decreased based on the benchmark interest rate.However, the new policy sets the lower limits, which means that the mortgage interest rate can only be higher than the limits.
3. A Change in Repricing Frequency:
The previous mortgages were based on the benchmark interest rates released by the Central Bank. These rates underwent few changes and sometimes were changed only once in a few years. However, LPR is quoted every month and may change frequently.
Impacts of the New Policy on Mortgage Interest Rates:
According to the relevant person in charge at the Central Bank, the PBC branches would guide provincial market interest rate pricing self-regulation mechanism to determine the local LPR plus point lower limit in time. In comparison with the interest rates before the reform, the interest expenses of the households applying for individual housing loans will be basically unaffected. If the LPR is lowered later, the minimum interest rates on the first and second home loans will be consequently lowered according to the Central Bank regulations. However, the following points should be noted: lowering is only applicable to minimum interest rates; actual interest rates will be affected by the regulations and the bank’s credit resources; and actual interest rates are unlikely to drop significantly and widely in the short term.
The Central Bank’s move of changing the mortgage interest rate benchmark to the LPR is aimed at resolutely implementing the positioning that “houses are for living in, not speculating on”, besides maintaining the overall stability of interest rates on individual housing loans. The level of short-term actual interest rate will only have a slight impact on a very small number of high-quality borrowers. It will have little impact on most home buyers. In the long run, if China's real estate market can maintain healthy and stable development, the interest rate on mortgages – as banks’ high-quality assets – may gradually move closer to the risk-free rate (plus a small-amount risk and service rate). Therefore, even under ideal circumstances, whether the long-term mortgage interest rate will decline or not depends on the future risk-free interest rate. Therefore, it is difficult to make predictions.
Will the Interest Rates on Existing Mortgages Be Adjusted?
The interest rate adjustments announced recently are mainly targeted at the newly issued individual housing loans. The interest rates on the existing individual mortgages will still be subject to the original contracts. However, as PBC official answered press questions on improving LPR formation mechanism, “in addition to the previous one-year maturity, the LPR will also cover the maturity longer than five years, which will serve as the pricing reference for bank’s long-term loans such as housing mortgage, and facilitate a steady transition of outstanding long-term loan contracts with floating rates to the ones adopting LPR in the future.” Therefore, the existing mortgages may also be adjusted in the future.
As the mortgage periods are generally long, disadvantages attributable to user fairness and bank management will have to be borne if the interest rates on existing individual mortgages are not adjusted and the two interest rate mechanisms are maintained for a long time.
Looking at the larger picture, it is safe to say that decline in mortgage interest rates is conducive to lowering the costs of home buyers with rigid residential needs and improving their standard of living. At the same time, it will facilitate speculators to increase leverage. Therefore, a variety of tools should be comprehensively used to ensure that “houses are for living in, not speculating on”. The Central Bank’s move of adjusting mortgage interest rates this time around is significantly aimed at demonstrating China’s determination to ensure that “houses are for living in, not speculating on”. In addition, it shows that risk control efforts in the real estate sector are not being compromised in the process of carrying out market-based interest rate reform. Accordingly, sticking to the positioning that “houses are for living in, not speculating on” will also help reduce speculations and abnormal fluctuations in the real estate market. This is not only conducive to the healthy development of the real estate market, but also helpful in lowering mortgage interest rates in the long run.
