Loans cost more. The interest rate on my first mortgage (in the 90's) was 7%.
It basically reduces buying power for real estate. Using the google mortgage calculator and assuming a $1500 max monthly payment.
At a 3.92% (today) rate you can borrow ~$320K At an 8% rate you can borrow ~$200K
A 38% decrease in buying power. It's already happening in Canada as the gov't is trying to slow down the real estate market by making buyer qualify at a rate 2% higher than what it is today.
At 5% inflation if you pay 1000$/month in year 0 it feels like 614$ / month in year 10 and 377$ / month in year 20.
At 1-2% inflation the loss of the interest tax deduction over time as you pay more principle and less interest means home lone feels about as expensive in year 0 and year 20.
This is not the reason for mortgage stress test, just one of its effects. The main reason for the regulation is to avoid a tsunami of bankruptcies when interest rates eventually increase.
In Auckland there's been talk of that for at least 5-6 years. For example, people I personally know only earn $80-90k/yr and yet own a $500k house (absolute entry level livable house in Auckland). They also got in under our old rules which meant they only needed 5% deposit instead of the 20% required now.
They're only being propped up by their record low interest rates. If those interest rates went up 2-3% they'd be in serious trouble.
EDIT: for more context the average fixed period for any home loan in NZ is roughly 2-3 yrs. The term is a 30 year term typically.
But real estate is unlike a lot of other goods in that it's value is significantly driven by what other people are willing to pay, rather than what it intrinsically costs to produce. Thus, as your buying power goes down, so does everybody else's.