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NZ's current bank capital rules give ANZ a big leg up on Kiwibank

Friday 22nd February 2019

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New Zealand’s largest bank, ANZ Bank, currently must hold just over half the amount of capital that Kiwibank must hold to back every $100 of mortgage lending, giving the Australian-owned bank a huge cost advantage over its smaller government-owned rival.

ANZ Bank and the other three major banks, which are all Australian-owned, have used their own internal models for calculating how much risk-weighted capital they need since 2008 but  smaller banks, including Kiwibank, have been forced to use the same standardised model.

ANZ’s model requires the least amount of capital, followed by National Australia Bank-owned Bank of New Zealand, Commonwealth Bank of Australia-owned ASB Bank. Westpac requires the most.

In dollar terms, ANZ needs just below $3 per $100 of mortgages while Westpac needs about $4.20 per $100 and Kiwibank needs about $5.70 per $100. The other smaller banks currently have about $5 of capital backing every $100 of mortgages.

The Reserve Bank revealed this information as part of putting its case for why banks should have to hold considerably more capital than currently.

In December, it proposed lifting the minimum tier 1 capital ratio from 8.5 percent of risk-weighted assets to 16 percent for the four major banks and to 15 percent for the smaller banks with a phase-in period of five years.

The Reserve Bank estimates that the big four banks will need to raise about $20 billion of new capital and that they could do that by retaining 70 percent of their earnings over the five-year phase-in period. It estimates the smaller banks would collectively need $900 million.

Those amounts don’t include any additional capital banks might feel they would need. Currently, the average level of tier 1 capital is about 12 percent of risk-weighted assets, well above the mandated 8.5 percent minimum.

Deputy governor Geoff Bascand suggests that banks may feel they don’t need as much extra capital once the regulated minimum has been raised.

It is also proposing only to allow equity to count as tier 1 capital, which means the banks will have to refinance their hybrid instruments, usually forms of debt that can be converted to equity if a bank gets into trouble and which currently count as tier 1 capital.

As well, the Reserve Bank is proposing to limit the capital advantage the major banks gain from using internal models. 

Rather than gaining the full benefit their internal models indicate, they will have to provide at least 90 percent of the capital required using the standardised model that the smaller banks have to use.

The central bank’s proposals landed like a bombshell because although all the banks and banking analysts had expected that capital requirements would increase, the magnitude of what the Reserve Bank is proposing was a big shock.

For example, the big four banks’ Australian parents are currently required to have 6 percent tier 1 capital and 1.5 percentage points of that can be hybrid securities. Total capital, including tier 2 capital and a capital conservation buffer, must be at least 11.5 percent.

The Australian Prudential Regulation Authority, which uses the catch-phrase that Australia’s banks are and should remain “unquestionably strong,” is also looking at increasing its bank capital requirements.

However, the release on APRA’s website dated Nov. 8 shows it’s proposing to leave its Tier 1 capital minimum at 6 percent, although systemically important banks, all of own the big four New Zealand banks, should hold up to 19.5 percent of total capital.

APRA’s view is that banks can use any form of capital and “APRA anticipates the bulk of additional capital raised will be in the form of tier 2 capital. The proposed changes are expected to marginally increase each major bank’s cost of funding – incrementally over four years – by up to five basis points, based on current pricing. This is not expected to have an immediate or material effect on lending rates,” APRA says.

By contrast, the Reserve Bank of New Zealand is expecting its proposals may mean bank lending margins rise by 20-to-40 basis points and it has rejected other analyses that have calculated significantly higher impacts. UBS, for example, says the increase could be 80-to-135 basis points, which would mean a 4 percent mortgage now could end up costing 5.25 percent.

Bascand insists that the requirements the Reserve Bank is proposing are not outliers, but it does appear the central bank has been surprised by the reaction to its proposals to date.

The new minimums will take New Zealand to “the high end of international norms, but it’s not extreme,” he says, although the Fitch rating agency did describe them as "radical".

The Reserve Bank is citing Basel Committee estimates that will put New Zealand in the third quartile.

It also cites Standard & Poor’s risk adjusted calculations showing that New Zealand’s current capital requirements are well below average compared with other countries and that the new requirements will put them below those of Finland, Norway and the Czech Republic.


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