Credit crunch
Why you might not be able to borrow as much
December 5 is expected to bring big rule changes to New Zealand’s banks. It has been a year since the Reserve Bank proposed that commercial banks hold more of their own money against the loans they make, so that they might better withstand a monumental financial shock.
Over the past 12 months the consultation process has been controversial. The Reserve Bank solicited the views of the banking industry and other business users of financial services as well as the wider public. And contentiously, governor Adrian Orr used both public and personal channels to push the case for stronger rules and argue that the cost to the economy would be ‘‘minimal’’.
The banks and other observers, however, said the costs would be felt across the economy. Westpac estimated the proposal might add another $6000 a year to the average Auckland mortgage. Federated Farmers feared some of its members would be frozen out of borrowing altogether.
Over the winter, communication between Orr in particular, and the banks, and other players including academics, became so strained that Finance Minister Grant Robertson issued a statement asking for a ‘‘mature debate’’. Since then the war of words has quietened.
When approached by the Sunday Star-Times for comment on their preparations for any changes, all four of the big Australian-owned banks said they were in ‘‘wait-and-see’’ mode. ANZ, Westpac, BNZ (owned by National Australia Bank) and ASB (owned by Commonwealth Bank) account for some 86 per cent of bank lending in the New Zealand market.
But it is clear that even as they await next month’s decision, the banks are already quietly weighing their options. And there is mounting evidence that tighter credit conditions – and perhaps even a credit crunch – will be among the consequences.
The Reserve Bank proposal is to increase large banks’ total minimum capital requirements from the current 10.5 per cent to 18 per cent. For not ‘‘systemically important’’ banks, the figure is 17 per cent. It is broadly agreed that the changes will cost the banks, including domestically-owned lenders, in the region of $20 billion in new capital.
Riskier loans, typically including those to farms and small and medium-sized businesses, require the banks to keep a larger chunk of capital in reserve. The prospect of stricter rules may be constricting that lending already.
A Reserve Bank survey of commercial banks in October showed that credit availability has contracted in the past six months. Borrowing for dairy farmers has dropped the most precipitously.
But credit conditions have tightened much more broadly: across all agricultural loans and also for corporate and institutional as well as commercial property loans.
‘‘Credit has contracted and it’s going to contract a lot more,’’ Kiwibank chief economist Jarrod Kerr said.
The same survey shows that even as demand for agricultural loans is projected to pick up over the next six months, the likelihood that new demand will be met is bleak.
Banks cited regulatory changes, their risk tolerance, their perception of risk and balance sheet constraints as the key factors affecting the availability of credit.
‘‘Those are all problems related to new bank capital regulations,’’ Kerr said.
While the Reserve Bank has proposed a phasein period of five years for the new rules, there is a growing expectation that this time horizon will be pushed out to seven or even 10 years. Even so, Kerr said, it was difficult to see a situation where banks would delay repricing their lending.
Earlier this month BNZ chief financial officer Peter MacGillivray told Interest.co. nz that one of the three likely ways for BNZ to meet new Reserve Bank rules was to ‘‘right-size’’ the balance sheet.
Paring back riskier lending is one way banks can alleviate pressure on their balance sheets. But there are others.
In September, in light of interest from foreign buyers, New Zealand’s largest lender, ANZ, said it was not interested in selling its rural debt.
But an industry source said the bank was considering other ways of relieving pressure on its New Zealand balance sheet. One possibility is to make greater use of the parent bank through the New Zealand branch of the ANZ Banking Group.
Loans purchased by the group from ANZ New Zealand become the regulatory purview of Australia, where capital requirements will be lower if New Zealand’s current proposal goes ahead.
ANZ spokesman Stefan Herrick declined to comment on whether ANZ NZ might make better use of the parent branch which conducts no direct business with customers in New Zealand. However, he confirmed that the group branch was established during the global financial crisis (GFC) and initially bought $10b of housing loans from ANZ NZ to provide funding for the New Zealand business at a time of disruption in the global funding markets.
He also said the branch holdings of housing loans have fallen over time and in recent years this has been due to changes in the Australian Prudential Regulatory Authority’s (Apra) treatment of the ANZ Banking Group’s activities.
David Tripe, professor of banking at Massey University,doubted that ANZ would find moving loans to Australia an easy route to managing stricter regulation in New Zealand. ‘‘I would be surprised if Apra allowed it,’’ he said.
Commonwealth Bank of Australia and Westpac also operate branches in New Zealand.
Speaking after publishing interim financial results at the beginning of May, ANZ chief executive Shayne Elliott pointed out that ‘‘all insurance policies come with a cost.’’ ANZ shareholders, he insisted, couldn’t be expected to ‘‘unfairly subsidise’’ the one proposed by the Reserve Bank.
ANZ has by far the largest banking operations in New Zealand, and estimates it will need between $6b and $8b in new capital once the new rules come in, if they remain as currently proposed.
Among the most obvious ways for ANZ and the other foreign-owned New Zealand subsidiaries to raise new capital is through the parent banks.
MacGillivray told Interest.co.nz that one way
BNZ might meet the new rules was through a capital injection by National Australia Bank (NAB). Spokesman Sam Durbin said BNZ wasn’t able to make any further comment at this stage, so close to the Reserve Bank’s final decision. But observers agreed it was a likely avenue, despite the Australian bank’s recent struggles.
‘‘It’s a difficult moment for the banks,’’ Eliza Wu, associate professor of finance at the University of Sydney Business School said.
She noted that the banks faced pinched profitability in the business broadly, as growth in the core Australian market was weak, and very low interest rates had squeezed the spread wherein banks typically make money: the difference between their lending rates to borrowers and the interest rates they pay depositors and others for funds.
In early November, Westpac became the second of the big four to pare its dividend to shareholders in the face of falling profit. In May, NAB cut its dividend in order to shore up its capital position and compensate customers for wrongdoing identified in the Australian public inquiry into misconduct that concluded early this year. Despite that, she said ‘‘there is a market for the banks to raise capital through international investors’’.
BNZ may also raise funds in New Zealand if the Reserve Bank loosens what it considers acceptable tier 1 capital. The current proposal raises the minimum tier 1 capital ratio to 16 per cent of risk weighted assets for the big banks, and largely limits it to ordinary shares and retained profits. MacGillivray told Interest.co.nz a ‘‘softening’’ by the Reserve Bank on what capital instruments count as tier 1 capital could see BNZ issue financial securities in its own name.
Herrick also said the impact of the Reserve Bank’s decision depends on factors including ‘‘the instruments permitted to be used’’. Beyond that, Herrick said that ANZ had ‘‘already been retaining more of our profit in New Zealand this year to help meet any additional capital obligations, as well as investments in technology, risk compliance and customer service’’.
What remains to be seen is who will ultimately pay the extra cost of new capital: bank shareholders, or their customers in the form of lower interest on deposits and more expensive loans.
Wu pointed out that the way banks absorb new cost is a commercial decision that depends on many moving parts, including competition and new entrants to the market. Pricing is not a story that will be told quickly, it will play out for years to come.
‘‘Credit has contracted and it’s going to contract a lot more.’’
Jarrod Kerr
Kiwibank chief economist, above