The Real Estate Institute of Australia has urged regulators and banks to take caution when restricting bank lending to dampen investor demand for property in Sydney and Melbourne.

“Whilst warnings about interest-only loans and over committed borrowers might be justified in some circumstances, it does not mean all interest only loan borrowers should be penalised and outlawed,” REIA president Malcolm Gunning said.

He warned that the combined actions of APRA, ASIC and the banks could decrease demand for new properties to such an extent that supply dwindles, worsening housing affordability, and the construction sector weakens, damaging the overall strength of the economy.

“The cumulative impact of the collective action of APRA, ASIC and individual banks could well be sledgehammer, when only some fine tuning was required," he said.

“We need to be careful that we don’t constrain the building and construction sector that has kept the Australian economy growing following the decline in the mining sector."

Gunning said that talk of weakness and lack of confidence on the future strength of the economy, can become a self-fulfilling prophecy.

Being exposed to negative "expert opinions" daily can quickly become a "doomsday prophecy", warned Gunning.

Gunning said agents working at the coal face are already seeing signs of a slow down.

“Market information from our Sydney and Melbourne member agents suggests that there are signs of a slow down.  The leading indicators tell a very different story to the lagged historical data," cautioned Gunning.

“We need to be careful that an overreaction to the investor led Sydney and Melbourne property markets doesn’t threaten the health of the national economy”, he concluded.

More from Malcolm Gunning and the REIA:

REIA calls for action on affordable housing and property taxation

Economics, not investors, driving house prices, says REIA

More on measures to slow risky lending:

APRA tightens bank rules to restrict risky lending

Investor loans tumble 6% in February