Banks stable but profits falling, new Reserve Bank report says
The financial system remains strong, the Reserve Bank says, but it continues to monitor under-pressure households feeling financial strain from high mortgage rates and inflation.
The Reserve Bank has published its biannual Financial Stability Report on the soundness and efficiency of the financial system.
“New Zealand’s financial system remains strong as it continues to adjust to the higher interest rate environment,” the report said. “The impacts of high interest rates have been contained so far and if anything have been less severe than anticipated.”
However, it added: “We are continuing to closely monitor the financial strain on New Zealand’s households and businesses.
“Most borrowers have repriced on to higher interest rates. Strong nominal income growth has supported the ability to service debt. Households have reduced their discretionary spending, and some have reduced principal repayments to make their debt servicing more affordable.”
The Reserve Bank said: “Global inflation is declining from elevated levels towards central banks’ targets. Market pricing currently implies that central banks in advanced economies will begin to reduce their policy interest rates later this year.”
The global monetary policy cycle appeared to have peaked, the bank’s report said.
Earlier this month, Kiwibank economist Mary Jo Vergara said the first rate cut to the Reserve Bank’s official cash rate (OCR) would come in November, after the Reserve Bank had seen the third-quarter inflation figure reported in mid-October.
However, there were global risks, and an abrupt reversal in sentiment arising from weaker than expected earnings or inflation remaining elevated could drag stock prices down, which would generate economic and financial risks from a market-driven tightening in financial conditions, the Reserve Bank said.
There was continued pain in the business sector, and businesses faced ongoing pressure from increased costs and reduced economic activity, it said.
“Non-performing loans across all sectors have gradually picked up from low levels,” the Reserve Bank said. “The extent of further increases will depend on economic activity and the performance of the labour market.”
Banks remained strong, it said, but were not making as much money as they had in recent years.
“The New Zealand banking system remains well placed to handle a range of severe scenarios,” the Reserve Bank said. “Banks’ capital positions remain strong. Profitability is declining from recent elevated levels. Liquidity remains high, and funding conditions are strong.
“Housing market activity remains weak as high interest rates have reduced borrowing capacity and investor demand,” the Reserve Bank said. “House prices have increased slowly over the past year, following an earlier decline, and remain within our estimated sustainable range.”
Recent house price increases had been underpinned by rental growth, driven by strong immigration, the bank said.
However, the supply of new housing was expected to slow once developers completed existing projects.
“Faced with elevated uncertainty, many house buyers are preferring to purchase existing properties rather than buy new builds off the plans,” the Reserve Bank said. “As a result, many developers are finding it difficult to achieve the levels of pre-sales required by banks to finance new projects.”
The Reserve Bank said it expected to see an impact from the coalition Government’s tax changes that benefited property investors.
“Restoring the tax deductibility of interest expenses for residential property investments will increase investors’ valuations of existing properties and raise their debt servicing capacity, increasing demand for existing properties,” it said.
“In addition, reducing the duration of the brightline period will increase after-tax capital gains for investors selling properties within 10 years of purchase. This could increase speculative housing activity at the margin.”
It also expected to see some investors struggling with debt servicing costs and other increases in home ownership costs decide to sell properties, given they are no longer required to pay tax on capital gains.
Overseas banks with large exposures to struggling commercial property are doing it tough. The Reserve Bank said that in New Zealand, stresses in the commercial property industry were concentrated in the lower-quality office and parts of the retail sector, but risks to New Zealand banks from commercial property exposure were much more limited, with commercial property lending representing less than 10% of overall lending portfolios, and a lack of concentration in individual banks.