Lifting the Third Frame Limit: Drama in the Mortgage World – Or Not

Yesterday's newspaper headlines spoke of drama in the mortgage world. No less. In this article, I will describe what exactly happened and how it will affect things. Short spoiler: Not drama, not half drama.

Background: Third Quarter

In 2013, the Bank of Israel determined a number Mortgage restrictions that exist to this day. Among other things, it was determined that loans in which the interest rate changes more often than once every five years. I wrote it like this and not a prime limit of a third because in the past there were also tracks with interest rates that changed every year, two years, etc. Officially, these tracks still exist, but because the limitation created a kind of 'gathering" of all tracks with interest rates changing more often than once every five years under a single limitation, the public and the bankers (who are actually part of the public) have effectively eliminated the other tracks and remained with the prime rate, as the interest The current It was extremely low.

Similarly, the restriction theoretically eliminated the pathways where the interest rate was supposed to change every 7 years, 10 years, etc., which were customary before the restrictions. This is because with a 5-year variable rate, the interest rate was the lowest, and consequently, a more stable loan, like a loan with a variable rate every 10 years, entered the same risk level according to the Bank of Israel as a variable rate every five years.

Yesterday, the Bank of Israel published Draft to change his decision. According to this draft, all variable interest rate loans will be considered identical in terms of risk. This means that before yesterday's draft, we were required At least One-third of the loan at a fixed interest rate Committee One-third of the variable rate loan more than once in five yearsThe original instruction It didn't mention the term "price" at all. Now all we need is one-third of the loan at a fixed interest rate (indexed or not indexed), and then we can do whatever we want with the rest.

What actually happened yesterday?

Nothing!

Despite the press, as usual, coming out with headlines like 'Dramatic Announcement" or "Cancellation of the Third Frame Limit," etc., in practice, nothing happened at all. Nada. Always when you read a news report, it's advisable to go to the source. It's not always easy. Newspapers like to write "The Bank of Israel announced" but don't like to provide the source so you'll continue reading them and won't skip out to their advertisements. You can click here to see the official announcement from the Bank of Israel. It is regrettable that in this announcement, the Supervisor of Banks chose to only address prime, even though, as stated, the limitation did not mention prime at all. However, two things are clear from the announcement:

a. We can take any mortgage composition, provided that one-third of it will be at a fixed interest rate (indexed or non-indexed).

B. The decision has not taken effect at all, and there is no target date for the decision to take effect.. You can see this in the link I posted above. All the Bank of Israel wrote is that after receiving comments on the draft it published yesterday, "the final directive will be formulated within a few weeks." There are various rumors linking a final directive to the beginning of the year, but these are just rumors.

Regarding the timelines for the removal of the third-party limit (I am using this term for convenience although, as stated, it is not precise), it is important to emphasize that the removal of the Bank of Israel's limit does not obligate banks to remove the limit from their perspective. No one is obligated to give you any type of loan. It's not that the Prime is less profitable than other tracks, as many mistakenly believe. The issue is entirely technical. At a bank, the branches, bankers, and stacks of paperwork are just scenery. The bank is essentially a giant software house that also deals in selling financial products. Each bank's IT department includes hundreds of people who need to write new software for every product or change to an existing product. For example, Discount Bank decided they aren't writing software for a mortgage with equal principal repayment, so they cannot sell such a mortgage. It is entirely possible that the Bank of Israel will cancel the restriction, but for technical reasons, it will take the banks some time until the cancellation comes into effect for them. It is also possible that the restriction will remain in some banks while it has already been canceled in others.

Why were these restrictions put in place in the first place?

Economic theory suggests that low interest rates cause people to consume more products (it's less worthwhile to save) and therefore encourage the economy. Consequently, after the tech bubble burst in 2000, interest rates were lowered in many parts of the world with the goal of encouraging the economy to exit the recession (we can discuss the reasons for doing so in Israel, which did not experience a recession, another time; for now, it is sufficient to say that a small economy in a global market must behave like the economies with which it trades). The result was that in Israel, as well as in the US, people didn't really buy more clothes and restaurant meals, but instead bought assets like apartments instead of financial assets like savings plans.

The graph clearly shows a relationship between US interest rates and housing prices.

In our country, things are slightly different. We have additional troubles that Americans don't, such as the second intifada and other calamities. Nevertheless, the low-interest rate environment, which encourages taking loans on the one hand and suppresses the desire to save on the other, has created Along with other things Growing demand for apartments and their rising prices.

In an attempt to separate the interest rate environment for purchasing an apartment from the general interest rate environment in the economy, the Bank of Israel imposed a series of restrictions, including a limit on the percentage of a loan that can have a variable interest rate, the percentage of financing possible when purchasing more than one apartment, etc. Another reason, of course, was to ensure the financial well-being of Israeli families. People do not price future risks well. They live with a feeling of 'going with the flow," "rolling along," "we'll cross that bridge when we come to it," etc. Requiring people to take a portion of the loan at a fixed interest rate was intended to create partial stability in people's mortgage payments.

Why did the Bank of Israel cancel some of the restrictions?

First, we can learn from the lifting of the restriction. That even professionals don't know how to predict the future. The Bank of Israel’s restrictions have not slowed the rise in housing prices. The idea that one could separate the interest rate for buying a car from the interest rate for buying an apartment has not succeeded. One positive development in this context is the entry of additional players into the mortgage market besides the banks—players whose advantage over the banks is that they are not subject to the Bank of Israel’s restrictions. As an aside, I can mention that just today I spoke with a representative from the company Credito, who presented their solution for mortgages based on the 100% prime rate. In fact, this company only offers mortgages based on the 100% prime rate (remember the software development issue?).

The interest rate hike that was predicted about a decade ago never materialized, and it is far from clear whether it will happen in the coming years. In fact, anyone who did not take out a 100% Prime loan due to the Bank of Israel’s restrictions has lost a great deal of money to date. This is not a recommendation to take a loan at prime interest or any other track. It could certainly have been the other way around, with interest rates rising and anyone who took out a 100% prime-rate loan losing their home.

Bank of Israel's statement talks about risk considerations, analyzing implications, etc. In reality, what happened was a surrender by Bank of Israel to some Knesset members (mentioned in its statement) who threatened to bring a bill to the Knesset that would be imposed on Bank of Israel. To avoid this situation, Bank of Israel decided to reach a sort of compromise (keeping the one-third limit on fixed interest rates) and cancel the limitations on variable interest rates.

What should I do now

Nothing. At least not until the situation actually changes on the ground. There is only one group of people for whom this interim situation should truly cause special alertness – those who need a mortgage in the near future. This group needs to consider whether they want to change the composition of their mortgage and whether they are willing to take the risk that the lifting of the restriction will not come into effect by the time they need the mortgage. It is very important to understand The fact that allow Taking a higher risk does not necessarily mean Worth it Take a bigger risk. A common myth to bust in this context is the myth I’ll take out a lot of prime-rate loans, and if interest rates go up, I’ll just refinance the loan at most. No way, buddy. If you can get a prime-rate loan today at 1.1% and a fixed-rate loan at 3.5%, then if the prime rate reaches 2.1%, you won’t be able to refinance into a fixed-rate loan at 3.5%—instead, you’ll have to refinance into a fixed-rate loan at, say, 4.8%.

I signed a mortgage contract and started paying the contractor. Can I change the mortgage composition now? No. You can only change the mortgage composition after you actually receive the apartment (Form 4).

I took out a mortgage three years ago. Should I refinance it now? First, as mentioned, not now, but after banks are able to offer loans with a higher prime percentage, the question will become relevant. At that point in time, you will need to reconsider whether it is suitable for you to increase the level of risk, such that if the prime rate increases, you will find it difficult to pay the mortgage.

Summary

First, take a deep breath. Currently, there is no change. In the future, it's always advisable to use a news article as a starting point for information, not as an endpoint. Always try to reach official announcements or choose media outlets that don't create unnecessary drama. Those who are nearing the mortgage process should consider whether they are prepared to increase their risk-reward ratio (the chance to gain if the prime rate stays low, the risk of paying more or reaching a financial crisis if the prime rate rises).

As always, you are welcome to write your opinion below in the comments. I read everything. You can also discuss the topic in the group. Growing economically together on Facebook – https://www.facebook.com/groups/studyeconomics