INSIGHTS

The banking sector has been in the news quite a bit in recent years. Across the ditch we’ve seen the big four Aussie banks, which in-turn own the big four New Zealand banks, endure a highly publicised Royal Commission into misconduct. This resulted in several revelations, fines and ultimately changes to bank behaviour.

In New Zealand, a similar review was conducted, finding much fewer failings, while the Reserve Bank of New Zealand (RBNZ) recently set new rules around required capital levels – amongst the highest in the world.

Add to this lower interest rates and a weaker loan growth environment, both of which have pressured profits, and the operating environment has been tough indeed. To highlight this, over the past five years, the big four Australian banks have underperformed the Australian market by an average of more than 10% per annum.

Now COVID-19 has presented a raft of new challenges for the banks. Interest rates have fallen even further, pressuring margins, while demand for new loans has diminished and bad debts are expected to rise sharply in the months ahead.

This has naturally led some to question how safe our banking system is, and, furthermore, how safe bank deposits are.

It is true that New Zealand is one of the few countries without a formalised bank deposit guarantee scheme. These schemes see a government guarantee the safety of depositors’ money, should a bank fail. However, the Government is planning on introducing a $50,000 guarantee in the coming years. This would cover around 90% of depositors and 40% of the total value of deposits. Despite recent events, such a scheme still appears to be years away.

In any case, there has always been an implicit guarantee in place. In 2008, at the depths of the GFC, the Government introduced a temporary deposit insurance scheme, which expired in 2011. This was to prevent a flood of withdrawals and a flight of cash to countries that had a deposit insurance scheme, such as Australia. This extended beyond the banks and saw the Government bailout those with funds deposited or invested in the failed finance companies to the tune of $2bn (compared to total guarantees of $133bn).

While $50,000 is a relatively low amount by global standards (Australia’s cap is A$250,000 for example), not much has really changed – the bank is still the safest place for your money.

Our banks have also never been as well placed to weather such a storm as that presented by COVID-19.

Taking lessons from the GFC, financial regulators the world-over have increased the amount of capital (or shareholders’ equity) that a bank must have. While this is the most expensive form of funding, it is also the lowest risk. Just as with a regular company, high levels of equity (and therefore lower debt) means a safer bank which is more able to withstand adverse economic conditions, like we’re currently experiencing.

According to the Reserve Bank of Australia, the major banks entered 2020 with capital levels as a percentage of total assets roughly twice what it was heading into the GFC. The capital levels of the Australian banks, and their New Zealand subsidiaries, all also sit in the top quartile when compared globally.

International comparison of bank capital levels

In further moves to ensure banks in New Zealand remain well funded and in a position to continue lending to businesses and consumers, the RBNZ recently deferred the implementation of its recently announced capital requirements by a year, allowing banks to use their ‘counter-cyclical’ buffers. A further deferral is also possible. Additionally, the major New Zealand banks have agreed to not pay any dividends (including to their Australian parent owners), while the RBNZ has put in place temporary bank funding operations to ensure banks have access to funds to ensure they can to continue to make loans. Loan to value ratio (LVR) restrictions also look like they will be eased in the near future.

COVID-19 will stress the economy, there is no doubt about that. However, we’re fortunate we have a well-capitalised and well-regulated banking system that is better placed than that of most countries to handle such a shock.