The Reserve Bank of Australia (RBA) will today unveil its quarterly Financial Stability Review. While the RBA is likely to ratchet up its rhetoric against rising house prices, I suspect it will quite rightly remain loathe to support the latest fashionable cure for Australia’s alleged house price problems – macro-prudential controls.

At their most basic level, macro-prudential controls would impose home lending restraints on financial institutions – such as maximum loan-to-valuation ratios or greater income to mortgage repayment buffers for would-be borrowers. It has even been suggested – from some commentators that should know better – that the controls might be confined to only investors seeking finance and/or only those buying in New South Wales or Melbourne.

Particularly in Australia’s case, macro-prudential controls would be an incredibly blunt weapon to fight Australia’s specific housing related problems. Worse, such controls are likely to most hurt those they are intended to help – namely riskier first home buyers trying to get a foothold in the market.

Indeed, such controls seem a throwback to the bad old days of the 1970s and 1980s, where policy makers vainly tried to keep control over the flow of credit in the face of increasing financial ingenuity and innovation.

Imposing such controls on only banks today – or even major non-bank lenders – might only open up opportunities for lending through other murkier channels.  

And to consider picking and choosing in which states or regions these restrictions might apply opens up another Pandora’s Box. After all, who should decide which markets are 'overheated' or merely reflect strong local fundamentals?

Restricting lending to 'investors' rather than 'first home buyers' is also open to creative evasion, not to mention potentially adding to the risk profile of home loans being provided by banks.

What’s more, many buyers in Australia’s hottest property markets don’t rely on locally intermediated credit. Cashed up self-managed super funds (SMSFs) might be buying outright, as are international investors – to the extent the latter are able to evade Australia’s poorly enforced rules against the purchase of established properties.

We also need to ask ourselves, why are credit controls needed? There appears to be a view that while we want low interest rates to support the economy, we don’t want the credit and asset price growth these create. But it’s precisely though stronger credit growth and rising asset prices that low interest rates do much of their work.

Isn’t the point of low interest rates to encourage borrowing and lending? If it’s not, it suggests that economies seeking to maintain low rates yet also restrain credit growth is doing so to keep their own currencies cheap, which is a self-defeating beggar thy neighbour policy. 

Of course, that’s not to say we should turn a blind eye to potential market problems – we only need to be more targeted in how we tackle them.

To the extent Australia is at risk of a house price 'bubble', these risks seem most acute in Sydney and Melbourne – where house prices have increased most strongly in recent years, and where there is also a lot of new high rise inner city development that might cause oversupply in the years ahead. But before we go down the path of clumsy macro-prudential controls, we should first tackle potential problems at their source.

For starters, there appears a loophole in the regulations surrounding borrowing by SMSFs, in that they can borrow to buy assets provided that it 'non-recourse' lending, which appears to greatly favour property over other assets such as shares. SMSF borrowing rules might be reviewed.

It’s also very unclear – given poor regulatory oversight – the degree to which foreign (particularly Chinese) buyers are driving up prices and new construction in the hotter pockets of Sydney and Melbourne. We need to know much more on the extent of foreign demand – and whether this should be curtailed – before we begin limiting the ability of banks to lend to locals. 

Otherwise, we might only make it even cheaper for foreign investors to buy up chunks of our market.