RBA faces ‘substantial’ loss, negative equity

Circumstances demand extreme policies, says bank

“It is difficult to be precise about how long this situation will last or how big these negative earnings will be.”

Michele Bullock

SYDNEY: Australia’s central bank will record a “substantial” loss in the fiscal year just gone and be in negative equity for a period due to its massive bond-buying programme, deputy governor Michele Bullock says.

“The board has indicated to the government that it expects that future profits will be retained by the bank until the bank’s capital is restored,” Bullock said in a speech at Bloomberg’s Sydney office yesterday.

“The treasurer has endorsed this general approach.”

Bullock spoke hours after the Reserve Bank of Australia (RBA) released an internal review of its 15-month quantitative easing programme that showed benefits to the economy and the government’s books from the bond purchases.

But it also showed that costs to the bank will mount as interest rates rise.

Bullock said that valuation losses on domestic bonds due to the increase in yields were around A$40bil (Us$27bil or Rm123.3bil).

Bullock pointed out that if any commercial firm had negative equity, its assets wouldn’t be sufficient to meet liabilities and, therefore, it wouldn’t be a going concern.

“But central banks are not like commercial entities,” she said.

“Unlike a normal business, there are no going concern issues with a central bank in a country like Australia.”

The RBA’S findings on its bond-buying programme come as it has delivered the sharpest policy tightening cycle in a generation, taking the cash rate to 2.35% from 0.1% in May.

Bullock explained that the rate being paid on exchange settlement balances has been rising and the RBA is now in a position where the interest being earned on its assets is less than what it receives.

“In other words, underlying earnings are negative,” she said.

“It is difficult to be precise about how long this situation will last or how big these negative earnings will be.”

The central bank reiterated in its review of the bond buying programme that it had agreed to strengthen the way it considers a wide range of scenarios when making monetary policy decisions in the future.

The RBA maintains that it’s only appropriate to use unconventional policies in “extreme circumstances.”

Bullock highlighted that the RBA is “unusual” in using market value accounting without an indemnity from the government.

“For example, both the Bank of England and the Reserve Bank of New Zealand use market value accounting for securities purchased under their equivalent bond purchase programmes,” said Bullock.

“But their profits are unaffected by markto-market gains or losses because they are offset by a matching entry that reflects the value of their indemnity.”