Friday 19th July 2019
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KPMG says the Reserve Bank’s bank capital proposals will lead to less bank lending to farmers and at significantly higher interest rates on the loans they’re prepared to provide.
The accounting firm says the proposals in their current form will mean the five banks who currently lend about $62 billion to the agricultural sector will have to hold between twice and three times the amount of capital for agricultural lending as for residential mortgages.
Two-thirds of that lending is to dairy farmers.
“KPMG’s best estimate is that those five banks will rationally seek to both reduce agri-lending by between 15-25 percent, mainly in dairy, and increase margins across their remaining agri- lending by 100-125 basis points,” it says in its submission of RBNZ’s proposals.
That would mean an added interest bill of up to $12,500 a year per $1 million of borrowings.
Even though the bank capital proposals won’t be finalised until later this year, KPMG says its clients are already reacting to them.
“Our agri clients are already reporting the impact of the proposed capital framework on their debt management. The five major agri-lenders, anxious to avoid being ‘last-mover,’ have severely scaled back or shut down new-to-bank dairy lending,” it says.
Farmers are responding by reducing debt where possible, delaying or avoiding ‘discretionary’ capital spending and reducing other spending.
“Both farmers and bankers understand that these short-term measures are unsustainable for some farmers,” KPMG says.
It predicts the impact will be heavily concentrated on dairy farmers and will have “seriously damaging” consequences for farming communities in Southland, Otago, Canterbury, Waikato, Taranaki and other dairy farming areas.
It will also mean the market for rural land will crash, the weakest, most-indebted farms will fail and farm spending, particularly on capital items, will be reduced or seriously delayed, damaging wider farming communities, KPMG says.
“It will destroy the accumulated capital position of New Zealand’s ageing farmer population at a point where the sector needs them to sell their farms to young farmers with new skills in managing the changing risk profile,” its submission says.
The RBNZ is proposing to nearly double the minimum amount of tier 1 common equity banks are required to hold from 8.5 percent to 16 percent of risk-weighted assets for the four biggest banks and to 15 percent for the smaller banks.
KPMG’s figures show the big four banks and Rabobank are the largest lenders to the rural sector.
ANZ has the largest rural book at $17.4 billion, followed by National Australia Bank-owned Bank of New Zealand at $13.8 billion, the Commonwealth Bank of Australia Group – it owns ASB Bank – at $10.7 billion, Rabobank at $10.4 billion and Westpac at $8.3 billion.
Heartland Bank is a very distant sixth largest lender and several other banks account for the remaining thin sliver of lending.
The accounting firm estimates that 10-to-14 percent of dairy lending currently is “at undesirably high risk grades,” and that 60-to-80 percent of dairy lending is “at poor, or very poor returns” under the proposed capital framework.
That is why it thinks bank lending to dairy farmers will shrink so dramatically, although it also says its estimates are “taking into account those banks’ practical need to remain engaged with the agri-sector, given the nature of our economy.”
KPMG says it’s possible other unregulated lenders may step in to fill the breach left by the major banks withdrawing but says “recent history indicates those lenders should be unacceptably high risk to the resilience of the banking system from the point of view of the agri-borrowers, the government and the general economy.”
Alternative lenders may include branches of foreign banks, foreign sovereign wealth funds or domestic funds including the New Zealand Superannuation Fund, ACC and private equity players.
“It is unclear to us whether the RBNZ’s financial stability goals would be met by transferring $10-to-15 billion of agri-lending away from locally-incorporated, systemically important, well capitalised banks to uncapitalised branches of foreign banks,” KPMG says.
RBNZ estimates the big four banks account for 88 percent of New Zealand’s banking system.
“It is also unclear to us whether foreign control – through high leverage – of a significant portion of New Zealand’s productive agricultural land … would be subject to Overseas Investment Office approval and/or acceptable to the government,” KPMG says.
The accounting firm says even if these foreign players did take on a larger role in dairy lending, the sector’s cyclical peaks and troughs and changes in global threats or opportunities “could quickly see the withdrawal of those global banks from this difficult sector.”
If foreign sovereign wealth funds step into the sector, their lower cost of capital could mean they could attractively price agricultural debt, and “perversely” attract the best quality dairy debt while leaving the banks with the less desirable lending.
“Importantly, sustainable management of exposures to agri-lending requires substantial management expertise to achieve the appropriate outcome for both borrower and lender. We are concerned that these alternative sources of capital may not bring that expertise.”
KPMG estimates that the agri-food sector generates $40 billion of exports and has grown 5 percent annually over the last 10 years but that it needs to perform better to lift incomes, fuel government spending plans, and fund innovation in the sector.
“In our view, a constraint on funding our agri-food sector now would not be good for New Zealand,” it says.
KPMG is also warning reduced bank lending to dairy farmers will mean a loss of appetite for investment in environmental improvement, such as effluent management and to combat climate change, putting New Zealand’s already challenged “clean, green” image at risk.
The accounting firm is urging the RBNZ to produce its own cost-benefit analysis of the impact on agri-lending “to stimulate full and proper debate.”
“Given the significance of the proposed capital framework and the potential broad impacts on both the agri-sector and the broader economy, we would have expected detailed cost-benefit analysis to have been prepared and released concurrently with the proposals themselves.”
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