Council of Financial Regulators – Digital Finance Analytics (DFA) Blog

Council of Financial Regulators On Covid-19 – Liquidity Taps Are On…

As Australia’s financial system adjusts to the coronavirus (COVID-19), financial regulators and the Australian Government are working closely together to help ensure that Australia’s financial markets continue to operate effectively and that credit is available to households and businesses.

Australia’s financial system is resilient and it is well placed to deal with the effects of COVID-19. The banking system is well capitalised and is in a strong liquidity position. Substantial financial buffers are available to be drawn down if required to support the economy.

The funding position of the banking system is strong. Australia’s financial institutions, market participants and market infrastructure providers have undertaken substantial investments in their operational capability to deal with the effects of the virus. At the same time, trading liquidity has deteriorated in some markets and financial institutions are having to adjust to a more volatile environment. The financial regulators are in regular contact with financial institutions, market participants and market infrastructure providers.

The RBA is continuing to support the liquidity of the system. As part of this support it will be conducting one-month and three-month repurchase (repo) operations until further notice. In addition it will conduct repo operations of six-months maturity or longer at least weekly, as long as market conditions warrant. The Australian Prudential Regulation Authority (APRA) is ensuring banking institutions pre-position themselves to take advantage of the RBA’s supportive measures.

Given the disruption being caused by COVID-19, Council members are examining how the timing of regulatory initiatives might be adjusted to allow financial institutions to concentrate on their businesses and assist their customers.

APRA and ASIC acknowledge the importance of the continued flow of credit to affected customers and industries in the current environment. Banks and other lenders are therefore encouraged to work constructively with affected customers during any period of disruption. For their part, APRA and ASIC will take account of the circumstances in which lenders, acting reasonably, are currently operating during the prevailing circumstances when administering their respective laws and regulations. Both agencies also stand ready to deal with problems firms may encounter in complying with the law due to the impact of COVID-19 through a facilitative and constructive approach. In particular, each agency will, where warranted, provide relief or waivers from regulatory requirements. This includes requirements on listed companies associated with secondary capital raisings, annual general meetings and audits. ASIC will also work with financial institutions to further accelerate the payment of outstanding remediation to customers as soon as possible.

The Council is meeting with major lenders later this week to discuss how they can best support households and businesses through this challenging period. The Council will be emphasising the importance of a continuing supply of credit, particularly to small businesses. It will be also discussing with the lenders whether there are impediments to lending that Council members could help to address.

The members of the Council of Financial Regulators remain in close contact with one another and with the Australian Government and their international peers. The Council will have its regular quarterly meeting on Friday 20 March at which the impact of COVID-19 on the financial system will be further discussed. The Council and the Australian Treasurer are also holding teleconferences at least weekly.

Council of Financial Regulators

The Council of Financial Regulators (the Council) is the coordinating body for Australia’s main financial regulatory agencies. There are four members: the Australian Prudential Regulation Authority (APRA), the Australian Securities and Investments Commission (ASIC), the Australian Treasury and the Reserve Bank of Australia (RBA). The Reserve Bank Governor chairs the Council and the RBA provides secretariat support. It is a non-statutory body, without regulatory or policy decision-making powers. Those powers reside with its members. The Council’s objectives are to promote stability of the Australian financial system and support effective and efficient regulation by Australia’s financial regulatory agencies. In doing so, the Council recognises the benefits of a competitive, efficient and fair financial system. The Council operates as a forum for cooperation and coordination among member agencies. It meets each quarter, or more often if required.

Council of Financial Regulators – Latest

The Council of Financial Regulators (the Council) met on Friday, 29 November. The main topics discussed included the following:

Financing conditions and the housing market. Council members discussed trends in credit and recent developments in the housing market. Growth in housing credit remains subdued overall, with credit to investors particularly weak. Owner-occupier loan commitments and housing turnover in Sydney and Melbourne have picked up, suggesting that a strengthening in credit growth is likely. Mortgage lending standards have been broadly unchanged recently. Overall, near-term risks related to the housing market have lessened as housing market conditions nationally have improved. Members discussed the potential for the current weakness in apartment construction to place upward pressure on prices in some cities over time unless construction picks up. They also discussed the tight credit conditions for small businesses and the reduced risk appetite by many lenders for lending to small business.

Responsible lending. Members discussed ASIC’s plans to release updated guidance on responsible lending provisions in the coming weeks. The guidance will maintain the current principles-based approach that recognises lenders’ flexibility to determine what is reasonable in individual circumstances. It will also assist lenders to better understand their obligations and reduce the risk of non-compliance. The guidance will also address the confusion around the requirements that apply to small business. It will confirm that responsible lending requirements do not apply to loans made predominantly for business purposes, regardless of the type of security offered for the loan. Council members stressed that the flow of credit is fundamentally important to the functioning of the Australian economy and discussed the concern that lenders’ risk appetite for some types of lending may have swung too far towards caution.

Cyber risk initiatives. The Council met with representatives of the Department of Home Affairs and the Australian Cyber Security Centre (ACSC) to review the current cyber security environment. They also discussed key initiatives to improve cyber resilience, including the development of the Government’s 2020 Cyber Security Strategy, and application to the financial sector. Council agencies, the Department of Home Affairs and the ACSC will continue to cooperate to improve the preparedness of the financial sector.

Resolution planning. APRA provided an update on its work to enhance plans for the resolution of individual financial institutions that become distressed. These plans aim to protect the interests of depositors and maintain functions that are critical to the economy or the financial system during times of stress. The Council discussed the work being undertaken by APRA to remove potential operational barriers to resolving a financial institution. They also considered possible operational arrangements that could provide liquidity assistance to authorised deposit-taking institutions (ADI) that do not have self-securitised loans available to access liquidity in the event of severe liquidity stress.

Non-ADI lending. The Council undertook its annual review of non-bank financial intermediation. Overall, financial stability risks arising from non-ADIs appear limited given the sector’s small size and its minimal links with the banking system. While growth in non-ADI credit for housing has continued to exceed that for ADIs, it remains a small share of total housing lending. The Council welcomed the improvement in data coverage of non-ADI lending following the recent enhancement of APRA’s data collection powers.

Policy and other developments. Members discussed a number of developments, including the ACCC’s residential mortgage product price inquiry, AUSTRAC’s court action against Westpac, changes to APRA’s structure and trans-Tasman developments.

The Australian Treasurer and representatives of the ACSC, AUSTRAC and the Department of Home Affairs attended for selected sessions.

Council of Financial Regulators

CFR – Financial Stability Risks From Falling Housing Prices Has Abated

The Council of Financial Regulators (the Council) is the coordinating body for Australia’s main financial regulatory agencies. There are four members: the Australian Prudential Regulation Authority (APRA), the Australian Securities and Investments Commission (ASIC), the Australian Treasury and the Reserve Bank of Australia (RBA). The Reserve Bank Governor chairs the Council and the RBA provides secretariat support. It is a non-statutory body, without regulatory or policy decision-making powers. Those powers reside with its members. The Council’s objectives are to promote stability of the Australian financial system and support effective and efficient regulation by Australia’s financial regulatory agencies. In doing so, the Council recognises the benefits of a competitive, efficient and fair financial system. The Council operates as a forum for cooperation and coordination among member agencies. It meets each quarter, or more often if required.

This is the source of the Australian financial regulatory group-think and underscores connection between the “independent” central bank and Treasury! The CFR has recently started publishing updates on its activities. This is the latest. We need an inquiry into the regulatory system, something which was missing from the Hayne Royal Commission, by design.

At its meeting on 18 September 2019, the Council of Financial Regulators (the Council) discussed risks facing the Australian financial system, regulatory issues and developments relevant to its members. The main topics discussed included the following:

Financing conditions and the housing market. Council members discussed credit conditions and recent developments in the housing market. Housing credit growth has been subdued, particularly growth in credit to investors. The major banks have seen slower growth relative to other lenders. Subdued credit growth has been primarily driven by weaker credit demand, though loan approvals have picked up recently. The potential for risks to financial stability from falling housing prices in Sydney and Melbourne has abated somewhat, with prices rising in the past few months. In contrast, prices have continued their prolonged decline in Western Australia and the Northern Territory and so the prevalence of negative equity for borrowers in those regions has continued to rise. The Council also discussed the continuing tight credit conditions for small businesses, with little growth in credit outstanding over the past year. The Council will continue to closely monitor developments.

Members discussed progress with updating the guidance regarding responsible lending provisions in the National Consumer Credit Protection Act 2009. The updated guidance should provide greater clarity about what is required for a lender to comply with its obligations, taking into consideration enhancements to lending practices, the impact of competition from new market entrants, as well as enhanced access to and usage of consumer credit data and technological tools.

Policy developments. APRA provided an update on a number of policy initiatives, including changes to the related entities framework for banks and other ADIs and proposals to strengthen remuneration requirements across all APRA-regulated entities. The proposed remuneration requirements seek to better align remuneration frameworks with the long-term interests of entities and their stakeholders, and incorporate a recommendation from the Royal Commission on limiting remuneration based on financial metrics. APRA briefed members on the outcomes of its capability review.

Superannuation fund liquidity. The Council considered arrangements for managing liquidity at superannuation funds during periods of market stress. They noted that arrangements had operated as intended during the financial crisis and had since been strengthened. They agreed that existing arrangements provide an appropriate incentive for superannuation funds to manage their liquidity and that circumstances where a systemic liquidity problem could arise for the superannuation system were highly unlikely. Members concluded that no additional measures, including access to liquidity from the Reserve Bank, were warranted.

Financial market infrastructure (FMI). Members discussed key elements of a package of proposed regulatory reforms for FMIs, including some changes to the supervisory framework and a resolution framework for clearing and settlement facilities. The reform package is expected to be released by the Council for consultation later in 2019. The package will seek to modernise and streamline regulators’ supervisory powers and provide new powers to resolve a distressed domestic clearing and settlement facility. Following the consultation, the Council will provide its findings to the Government to assist with policy design and the drafting of legislation.

Stored-value payment facilities. The Council finalised a report to the Government proposing a revised regulatory framework for payment providers that hold stored value. The proposed framework seeks to reduce the complexity of existing regulation, while providing adequate protection for consumers and the flexibility to accommodate innovation. Both the Financial System Inquiry and the Productivity Commission’s inquiry into Competition in the Australian Financial System called for a review of the regulatory framework. The report will be provided to the Government in the near future.

Banks’ offshore funding. The IMF’s recent Financial Sector Assessment Program (FSAP) review of the Australian financial system recommended that Australian regulators encourage a reduction of banks’ use of offshore funding and an extension of the maturity of their borrowings. Members noted that banks manage their risks from offshore borrowing through currency hedging and holding foreign currency liquid assets, and that there are various other factors mitigating the risks. They welcomed the progress that the banks had made in lengthening the maturity of their offshore term debt over recent years. A further lengthening of the maturity of their offshore borrowing would reduce the rollover risk for banks and the broader financial system.

Stablecoins. The Council considered some potential policy implications of so-called ‘stablecoins’ and associated payment services, particularly those linked to large, established networks. A stablecoin is a crypto-asset designed to maintain a stable value relative to another asset, typically a unit of currency or a commodity. Members concluded that elements of the existing regulatory framework, along with the framework proposed for stored-value facilities, were likely to apply to products of this type, but that Australian regulators would need to consider any international regulatory frameworks that might ultimately be established. Council agencies and a number of other Australian regulators are collaborating on their analysis of stablecoins. They are also drawing on their membership of several international groups focused on similar issues. Council members stressed the benefits of having a flexible, technology-neutral regulatory regime in dealing with these and other innovations.

Cyber security and crisis management. The Council reviewed work under way and planned by working groups focused on cyber security and crisis management. One focus of cyber security work in the period ahead will be aligning financial sector efforts with broader initiatives, including those of the Australian Cyber Security Centre and the Government’s 2020 Cyber Security Strategy. Recent work on crisis management in the banking sector has included a joint crisis simulation with New Zealand regulators, focussed on the testing of communications, under the auspices of the Trans-Tasman Council on Banking Supervision.

The Council Of Financial Regulators Speaks

The Council just updated their charter, and published their latest minutes. At least there is some minimal disclosure now, though high-level. Note the fact that Treasury is one of the members, alongside the RBA, ASIC and APRA.

The updates charter says:

The Council of Financial Regulators (CFR) comprises APRA, ASIC, the RBA and Treasury. It aims to facilitate cooperation and collaboration between member agencies, with the ultimate objectives of promoting stability of the Australian financial system and supporting effective and efficient regulation by Australia’s financial regulatory agencies. In doing so, the CFR recognises the benefits of a competitive, efficient and fair financial system.

The CFR provides a forum for:

identifying important issues and trends in the financial system, with a focus on those that may impinge upon overall financial stability;
exchanging information and views on financial regulation and assisting with coordination where members’ responsibilities overlap;
harmonising regulatory and reporting requirements, paying close attention to regulatory costs;
ensuring appropriate coordination among the agencies in planning for and responding to instances of financial instability; and
coordinating engagement with the work of international institutions, forums and regulators as it relates to financial system stability.

The CFR will draw on the expertise of other non-member government agencies where appropriate for its agenda, and will meet jointly with the ACCC, AUSTRAC and the ATO at least annually to discuss broader financial sector policy.

Their latest minutes:

At its meeting on 5 July 2019, the Council of Financial Regulators (the Council) discussed systemic risks facing the Australian financial system, regulatory issues and developments relevant to its members. The main topics discussed included the following:

Financing conditions and the housing market. The Council discussed credit conditions and ongoing adjustment in the housing market. Housing credit growth has stabilised at a relatively low level, with lending to investors remaining weak, particularly from the major banks. Demand for housing credit has been subdued, though there has also been some tightening in credit supply. Business credit growth has weakened recently, with lending to small businesses declining over the past year. Lenders are themselves applying stricter verification of expenses and income to small businesses, and lending may be affected by declining collateral values as housing prices decline.
Council members discussed the signs of stabilisation in the Sydney and Melbourne housing markets, evident in both housing prices and auction clearance rates. They observed that the adjustment over the past two years has been sizeable and conditions in most other capital cities continue to be soft. Risks to lenders from housing price falls have to date been limited by the strength of the labour market, low interest rates and the improvement in lending standards in recent years. Housing loan arrears have continued to edge higher, but with significant variation between regions.
Members were updated on ASIC’s public consultation on its responsible lending guidance. The responsible provision of credit is a cornerstone of consumer protection and is important to the Australian economy. It was noted that the consultation is not about increasing requirements; but rather, clarifying and updating guidance on existing requirements. For example, ASIC may further clarify areas where the law does not require responsible lending requirements to be applied (e.g. in small business lending). The Council agencies will continue to closely monitor developments in financing and the housing market.
ASIC’s product intervention powers. ASIC updated the Council on its proposed approach to the new product intervention power, legislation for which passed in April 2019. This gives ASIC the power to proactively intervene where a financial product has resulted or is likely to result in significant detriment to consumers. ASIC has launched a public consultation on its approach. Council members discussed possible applications of the new power given it is now available for use.
Product design and distribution obligations. The Council also discussed the implications of new product design and distribution obligations for retail holdings of bank-issued Additional Tier 1 (AT1) instruments. Members encouraged issuers to review their practices for issuing AT1 instruments ahead of the commencement of the new obligations in April 2021. They noted that APRA would continue to treat all AT1 instruments as regulatory capital, capable of absorbing losses in the unlikely event of a bank failure. Members discussed the importance that all holders of AT1 instruments, particularly retail investors, recognise that AT1 instruments could be written down or converted to equity.
Policy developments. Members discussed a number of policy developments, including the implementation of the recommendations of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry. APRA provided an update on its policy work, including changes to its guidance on the minimum interest rate used in serviceability assessments for residential mortgage lending (announced on the morning of the meeting). APRA also updated the Council on its planned increases in the loss-absorbing capacity of ADIs to support orderly resolution. Members discussed proposals by New Zealand authorities to significantly increase Tier 1 capital ratios for banks in New Zealand.
Financial market infrastructure (FMI). The Council’s FMI Steering Committee provided an update on the design of a crisis management legislative framework for clearing and settlement facilities. This will ensure the necessary powers to resolve a distressed domestic clearing and settlement facility. A second consultation is now planned for late 2019. The Committee has also considered proposals for enhancements to the agencies’ supervisory powers and other changes to improve the regulatory framework in relation to market infrastructures. The results of the Council’s consultation findings will be provided to Government, to assist with policy design and the drafting of associated legislation (the draft of which would also be consulted on before being introduced to Parliament).
Stored-value payment facilities. The Council discussed elements of a potential regulatory framework for payment providers that hold stored value, following a public consultation in 2018. Discussion focused on suitable criteria to determine the regulatory regime that should apply to providers of stored-value facilities, along with the adequacy of consumer protection arrangements. Once completed, the conclusions of this work will be provided to the Government for consideration.
Competition in the financial system. Council agencies and the Australian Competition and Consumer Commission (ACCC) are developing an online tool to improve the transparency of the mortgage interest rates paid on new loans. This follows a recommendation of the Productivity Commission’s inquiry into Competition in the Australian Financial System. The tool relies on a new data collection and is expected to be available in 2020.
Climate change. Council members noted the work undertaken by regulators to address the implications of the changing climate, and society’s response to those changes, for the Australian financial system.
Updated Charter. The Council agreed to adopt an updated Charter, which is being published today. The Charter emphasises the Council’s financial stability objective, while also recognising the benefits of a competitive, efficient and fair financial system. It also highlights the Council’s focus on cooperation and collaboration to support the activities of its member agencies.

In conjunction with the Council meeting, the Council agencies held their annual meeting with other Commonwealth regulators of the financial sector. This included representatives from the ACCC, the Australian Taxation Office and the Australian Transaction Reports and Analysis Centre (AUSTRAC). Topics discussed included enforcement and data initiatives affecting the financial sector.

Quarterly Statement by the Council of Financial Regulators

It is a non-statutory body, without regulatory or policy decision-making powers. Those powers reside with its members. The Council’s objectives are to contribute to the efficiency and effectiveness of financial regulation, and to promote stability of the Australian financial system. The Council operates as a forum for cooperation and coordination among member agencies. It meets each quarter, or more often if required.

It has started releasing minutes of their meetings recently. Here is the latest, not that it tells us much…. more form than substance.

At its meeting on 15 March 2019, the Council of Financial Regulators (the Council) discussed systemic risks facing the Australian financial system, regulatory issues and developments relevant to its members. The main topics discussed included the following:

Financing conditions and the housing market. The Council discussed the slowdown in housing credit growth and the weaker conditions in the housing market. Members agreed the evidence from data and consultations with banks indicated that the slowing in credit largely reflects weaker demand, particularly from investors. There has also been some tightening of credit supply over the past year as lenders have applied their lending policies more stringently and undertaken more detailed scrutiny of borrowers’ expenses and other liabilities. There remains strong competition for borrowers of low credit risk.

Housing markets remain weak, particularly in Melbourne, Sydney and Perth. However to date the adjustment in housing prices and activity has been orderly and does not raise material financial stability concerns. Housing prices nationally have fallen by 6½ per cent over the past year, but this has followed a period of large price gains in some areas. Further, the improvement in banks’ lending standards – including a lower share of high loan-to-valuation ratio lending – means that households and lenders generally are less vulnerable to falling housing prices than in the past. Despite historically high household debt, signs of financial stress remain relatively contained given a strong labour market and low interest rates. The Council noted that while mortgage arrears rates remain low, they have reached a post-financial crisis high. This largely reflects regional conditions. Overall, the future paths of housing activity and prices remain uncertain. The Council agencies will be closely monitoring the extent of any further adjustments, and in particular the ongoing availability of credit.

Small business lending. Members observed that new lending to small businesses has slowed over the past year. For many small businesses, personal and business finances are intermingled. As a consequence, the higher standards that lenders apply to personal borrowing are affecting some small business loan applications. Further falls in housing prices could constrain small business borrowing, given that around half of loans to unincorporated businesses are secured by residential property. The Council will continue to monitor developments closely and stressed the importance of lenders supplying credit to small and medium-sized businesses.

Members discussed the definition of small business in the Banking Code of Practice (the Code). They noted that the changes to the Code already due to commence on 1 July 2019 are significant. Further, the effects of these changes and any response to them by lenders, including small to medium-sized lenders, is still to be gauged. In light of this and the tightening in credit conditions that has taken place, members supported maintaining the current borrowing threshold to define small businesses within the Code, with an independent review to be undertaken within 18 months of the Code’s commencement. This would allow time for sufficient information to be gathered on the effects of the initial changes and the potential effects of the changes in the small business definition recommended by the Royal Commission. At that point it would be appropriate to consider whether to increase the limit from $3 million to $5 million for all banks. Members expressed a view that a limit based on total credit exposures is more appropriate than one based on loan size. Council members noted that other Royal Commission recommendations relevant to the Banking Code are expected to be implemented in the near term.

Final Report of the Royal Commission. Members discussed the implementation of the recommendations of the Royal Commission. This included the matters on which the Government is taking early action and the broader planning to allow the full agenda to be implemented in a timely and efficient manner. It was noted that an Implementation Steering Committee is being established and will meet shortly. It will be composed of senior representatives from Treasury, APRA, ASIC, the Office of Parliamentary Counsel and other agencies as required.

Following a request by the Government, the Council and the Australian Competition and Consumer Commission will consider the commission structure for mortgage brokers in three years’ time, including the effects of changes already announced.

Prudential policy development in Australia and New Zealand. APRA provided an update on its consultation on increasing the loss-absorbing capacity of authorised deposit-taking institutions (ADIs) to support orderly resolution. Members reiterated their in-principle support for a framework that is not overly complex. Members also discussed the Reserve Bank of New Zealand’s recent proposal to significantly increase Tier 1 capital ratios for banks operating in New Zealand, including the implications for the Australian parent banks.

The Council also discussed the activities of some of its sub-groups:

Financial Market Infrastructure (FMI) Steering Committee (the Committee). The Committee provided an update on its recent work, which has included further consideration of the design of the proposed FMI resolution regime for Australia. A further round of public consultation is likely in mid-2019. The Committee has also been working with Treasury on legislative changes that would support both the Council’s policy framework for competition in the clearing and settlement of Australian cash equities and the application of the Council’s Regulatory Expectations for Conduct in Operating Cash Equity Clearing and Settlement Services in Australia to ASX’s CHESS replacement project.

Cyber security. The Council approved new terms of reference and a work plan for its Cyber Security Working Group. The Working Group helps to coordinate cyber-related work programs among Council member agencies. Member agencies have been considering measures to increase the resilience of the financial sector to a material cyber incident, including by issuing new standards and guidance.

The Problem of ‘Regulatory Capture’

From The Conversation.

Markets require regulators. As Adam Smith, the champion of the invisible hand, notes in The Wealth of Nations, when individual interests are left unregulated they work to turn competitive markets into monopolies.

But what happens when regulators meant to check individual interests fail to promote the public interest?

Consider Australia’s banking sector. The banking royal commission has found plenty of fault in the ways the corporate and prudential regulatory agencies performed their vital roles – due not to lack of power but an unwillingness to use that power.

University of Chicago economist and 1982 Nobel laureate George Stigler was the first to outline how regulators can become “captured” by the very firms and industries they are meant to be regulating, beginning with an article in 1971.

Stigler’s idea has come to be known as “regulatory capture theory”, and it causes us to confront the uncomfortable question of how to ensure regulators act in the public interest, not in the interest of the firms they regulate.

Supply and demand

Stigler thought about regulation through the lens of supply and demand. Self-interested politicians supply regulation. Firms demand it – usually because they want a competitor regulated.

His classic example concerned regulations on the weight of trucks that could travel on state roads in the United States in the 1930s. He found empirical evidence that where trucks were more of a threat to traditional train transport (like on short-haul routes where railroads were less competitive) more stringent weight limits were enacted.

Rather than the regulator being a beneficent protector of the general public interest, it had become a self-interested actor responding to political pressure from the railroad owners.

This may strike you as rather cynical, but there is a swathe of evidence that across industries and time, regulators often act more in the interests of industries than the public.

These regulations usually have a plausible rationale behind them. Consider licensing of doctors. Nobody wants a poorly trained doctor let loose on them, so some form of certification makes sense. But does the medical profession limit the number of doctors and exclude foreign-trained doctors to push up their incomes? You be the judge.

It’s easy to think of other examples: “tickets” in the construction industry, certification of train and truck drivers in mining, licensing of plumbers, and on and on.

There are lots of ways this can arise. Politicians often depend on support and campaign contributions. And there is all too often a revolving door between regulators and the regulated.

Financial regulators

This brings us to the regulation of Australia’s banks.

The corporate and prudential regulatory agencies may have been unwilling to use their power, but the the big four banks were not.

And the banks have plenty of power – financial and political. They are utterly vital to the operation of the entire economy. They are among the very largest companies in the country (so a lot of retirement savings are invested in them). And they employ a lot of people.

We should stop assuming the Australian Securities and Investments Commission and the Australia Prudential Regulatory Authority, among others, are unquestionably acting in the public interest and start asking a bunch of questions.

What are the backgrounds of the people who head up these organisations and what perspective does that lead them to bring to the job? What jobs do they get after they leave the regulator, and how might that affect their motivations while acting as regulator? What would be the social sanction imposed on them if they decided to get really tough with financial industry players?

Regulators typically aren’t bad people. But sometimes they have bad implicit incentives. And the laws they are tasked with enforcing often favour a particular group – quite frequently those being regulated.

What about the politicians who make the laws in the first place? Are they really acting for all Australians with a thoughtful and balanced perspective? Or do they represent tribal interests?

We need to close revolving doors, provide more resources to regulators and scrutinise what they do much more. Let’s not be naive about regulation.

Author: Richard Holden, Professor of Economics, UNSW

The Council Of Financial Regulators Speaks

A welcome move, the shadowy Council Of Financial Regulators has started publishing minutes of its quarterly meetings. However, group think, and self-interest is all over it. Specifically the comments about tighter credit, and the need to continue to lend (to keep the debt bomb ticking a bit longer! Also how does independence of the RBA work in this context?

They noted that non-ADI lending for housing has been growing significantly faster than ADI housing lending and there is some evidence that non-ADI lending for property development is also increasing quickly.

As part of its commitment to transparency, the Council of Financial Regulators (the Council) has decided to publish a statement following each of its regular quarterly meetings. This is the first such statement.

The statement will outline the main issues discussed at each meeting. From time to time the Council discusses confidential issues that relate to an individual entity or to policies still in formulation. These issues will only be included in the statement where it is appropriate to do so.

The Council of Financial Regulators (the Council) is the coordinating body for Australia’s main financial regulatory agencies. There are four members: the Australian Prudential Regulation Authority (APRA), the Australian Securities and Investments Commission (ASIC), the Australian Treasury and the Reserve Bank of Australia (RBA). The Reserve Bank Governor chairs the Council and the RBA provides secretariat support. It is a non-statutory body, without regulatory or policy decision-making powers. Those powers reside with its members. The Council’s objectives are to contribute to the efficiency and effectiveness of financial regulation, and to promote stability of the Australian financial system. The Council operates as a forum for cooperation and coordination among member agencies. It meets each quarter, or more often if required.

At each meeting, the Council discusses the main sources of systemic risk facing the Australian financial system, as well as regulatory issues and developments relevant to its members. Topics discussed at its meeting on 10 December 2018 included the following:

Financing conditions. Members discussed the tightening of credit conditions for households and small businesses. A tightening of lending standards over recent years has been appropriate and has strengthened the resilience of the system. At the same time, members agreed on the importance of lenders continuing to supply credit to the economy while they adjust their lending practices, including in response to the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry. Members discussed how an overly cautious approach by some lenders to incorporating relevant laws and standards into loan approval processes may be affecting lending decisions. Members observed that housing credit growth has moderated since mid-2017, with both demand and supply factors playing a role. The demand for credit by investors has slowed noticeably, largely reflecting the change in the dynamics of the housing market. In an environment of tighter lending standards, the decline in average interest rates for owner-occupier and principal and interest loans suggests that there is relatively strong competition for borrowers of low credit risk. Credit to owner-occupiers is continuing to grow at 5 to 6 per cent.
Non-ADI lending. The Council undertook its annual review of non-bank financial intermediation. Overall, lending by non-ADIs remains a small share of all lending. However, non-ADI lending for housing has been growing significantly faster than ADI housing lending and there is some evidence that non-ADI lending for property development is also increasing quickly. The Council supported efforts to expand the coverage of data on non-ADI lenders, drawing on new data collection powers recently granted to APRA.
Housing market. Members discussed recent developments in the housing market. Conditions have eased, but this follows a period of considerable strength in the market. Housing prices have been declining in Sydney, Melbourne and Perth, but are stable or rising in most other locations. The easing in the housing market is occurring in a period of favourable economic conditions, with low domestic unemployment and interest rates and a supportive global economy. The Council will continue to closely monitor developments.
Prudential measures. APRA briefed the Council on its latest review of the countercyclical capital buffer, the results of which will be published in the new year. It also provided an update on its residential mortgage measures, including the investor lending and interest-only lending benchmarks. In line with APRA’s announcement in April 2018 that it would remove the investor lending benchmark subject to assurances of the strength of lending standards, the benchmark has now been removed for the majority of ADIs. The interest-only lending benchmark, introduced in 2017, has resulted in a reduction in the share of new interest-only lending, along with the share of interest-only lending that occurs at high loan-to-valuation ratios.
Financial sector competition. The Council discussed work by its member agencies in response to the Productivity Commission’s Final Report of its Inquiry into Competition in the Australian Financial System. The Council strongly supports improved transparency of mortgage interest rates and a working group is examining a number of options. The Council also discussed the Productivity Commission’s recommendations relating to lenders mortgage insurance and remuneration of mortgage brokers. Both the Productivity Commission and the Financial System Inquiry recommended a review of the regulation of payments providers that hold stored value – referred to in legislation as purchased payment facilities (PPFs). The Council released an issues paper in September and held an industry roundtable in November. Members considered the feedback received from these processes and received an update on progress with the review.
Limited recourse borrowing by superannuation funds. Members discussed a report to Government on leverage and risk in the superannuation system, as requested in the Government’s response to the Financial System Inquiry. The use of limited recourse borrowing arrangements remains relatively small, but has risen over time. Leverage by superannuation funds can increase vulnerabilities in the financial system, though near-term risks have reduced with the shift in dynamics in the housing market.
International Monetary Fund’s Financial Sector Assessment Program (FSAP). The FSAP review of Australia was conducted during the course of 2018; preliminary findings were presented to the Australian authorities in November. The Council held an initial discussion of the main FSAP recommendations and how they could be addressed. The FSAP will be finalised in early 2019, at which time summary documents will be published. (Further information on the FSAP review was published in the Reserve Bank’s October 2018 Financial Stability Review.)

Representatives of the Australian Competition and Consumer Commission and the Australian Taxation Office attended the meeting for discussions relevant to their responsibilities.

RBA Warns On Housing Loan Performance

The RBA has released their Corporal Plan for 2018/2019. In the section on Financial Stability they call out specific risks in the home lending market, relating to credit quality.

During 2018/19 to 2021/22, the main risks to financial stability will most likely continue to relate to credit quality. Notably, banks’ large exposure to a potential deterioration in housing loan performance is expected to remain a key issue, requiring ongoing monitoring by both banks and regulators.

They also highlight the role of the Council of Financial Regulators (CFR), and the issues raised by the Productivity Commission and Royal Commission:

The Reserve Bank works with other regulatory bodies in Australia to foster financial stability. The Governor chairs the Council of Financial Regulators (CFR) – comprising the Reserve Bank, the Australian Prudential Regulation Authority (APRA), the Australian Securities and Investments Commission (ASIC) and the Australian Treasury – whose role is to contribute to the efficiency and effectiveness of regulation and the stability of the financial system. The Bank’s central position in the financial system, and its position as the ultimate provider of liquidity to the system, gives it a key role in financial crisis management, in conjunction with the other members of the CFR.

The Reserve Bank will continue working with the other CFR agencies to support financial stability. In the period ahead this will be informed by the Financial Sector Assessment Program review of Australia being conducted by the International Monetary Fund during 2018. The Bank and other CFR agencies
will also carefully consider the implications for the resilience of the financial sector arising from findings and recommendations of the final report of the Productivity Commission’s review of competition in the financial system, as well as the outcomes of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry. The Bank will also continue working with APRA and with other regulators to monitor and, where necessary, respond to risks that may emerge from economic and financial shocks emanating from Australia or abroad.

Banking Regulators Asleep at the Wheel?

Well, finally, we got an admission from APRA that mortgage lending standards have decayed over the last decade, and that they needed to take action to reverse the trend. And now they are looking at debt-to-income.

Poor lending standards, they say are systemic, driven by completion, and poor bank practices. They recently intervened (a little). And late to the piece (now) debt-to-income is important. Did you hear the door slamming after the horse has bolted?

This is after ASIC called out poor lending practices, and the RBA have been raising concerns about the high household debt, and the downstream risks to growth this represents.

A completed change of tune from the declarations of 2015 when everything was said to be just dandy!

Those following this blog over the past few years will know we have been flagging these concerns, especially as the cash rate was brought to its all time low. We said DTI was critical, that standards should be tightened, and the growth of debt to income was unsustainable.

These three parties, plus the Treasury form the “Council of Financial Regulators” which is chaired by the RBA are all culpable. This body, which works behind the scenes, is referred to when hard decisions need to be take. If you look back at recent APRA and RBA statements, the Council gets a Guernsey!

The problem is there has been group-think for year, driven by the need to use households as a growth proxy for the failing mining and resource sector. And no clear accountability.

But too little has been done, too late. And it is poor old households who, one way or the other will pick up the pieces – not the banks who have enjoyed massive profit and balance sheet growth.

Even now, lending for housing is growing three time faster than incomes or cpi.

Regulators are now lining up to call out the problems. Managing the risk going forwards is a real challenge. Time to review the regulatory structure.

Worth remembering that the Financial System Inquiry recommended the creation of a new Financial Regulator Assessment Board to assess the performance of the regulatory framework, but this was rejected by the Government!

Policy Statements for Conduct in Operating Cash Equity Clearing and Settlement Services in Australia

The Council of Financial Regulators has released two policy statements setting out Regulatory Expectations for Conduct in Operating Cash Equity Clearing and Settlement Services in Australia and Minimum Conditions for Safe and Effective Competition in Cash Equity Clearing in Australia.

On 30 March 2016, the Government endorsed the recommendations of a review of competition in clearing Australian cash equities carried out during the first half of 2015 by the Council of Financial Regulators in collaboration with the Australian Competition and Consumer Commission (ACCC). These recommendations are set out in the report, Review of Competition in Clearing Australian Cash Equities: Conclusions, published at the time of the Government’s announcement.

Among these recommendations, the Council of Financial Regulators undertook to publicly set out:

its expectations for ASX’s conduct in operating its cash equity clearing and settlement services until such time as a committed competitor emerged (Regulatory Expectations )

a set of minimum conditions to ensure safe and effective competition should a competing provider of clearing services emerge (Minimum Conditions (Clearing) ).

The policy statements released today fulfil these commitments.

The Council of Financial Regulators also recommended that the relevant regulators be granted rule-making powers to impose requirements on ASX’s cash equity clearing and settlement (CS) facilities consistent with the Regulatory Expectations and the Minimum Conditions (Clearing). The relevant regulators would be empowered to make such rules if the expectations were either not being met or were not delivering the intended outcomes; and/ or if specific obligations on CS facilities were needed to support the minimum conditions for safe and effective competition in clearing. Further, the Council of Financial Regulators recommended that the ACCC be granted the power to arbitrate disputes about price and/or non-price terms and conditions of access to ASX’s facilities. The Government has committed to develop and consult on legislative changes in line with these recommendations.

The Regulatory Expectations cover a range of matters relevant to governance, pricing and access, and apply to ASX’s engagement with, and provision of services to, users of its monopoly cash equity clearing and settlement services for both ASX-listed and non-ASX-listed securities. The Regulatory Expectations have been prepared in accordance with a set of core elements outlined in the report, with some amendments and clarifications primarily to ensure their auditability.

ASX is expected to immediately publicly commit to acting in accordance with the Regulatory Expectations. ASX is also expected to commit to submitting an annual external audit of its governance, pricing and access arrangements to the relevant regulators and members of the relevant user governance arrangements, benchmarked against the Regulatory Expectations. The findings of such audits may be one input to any decision by the relevant regulators to employ rule-making powers or in an arbitration determination once the supporting legislative framework is in place. Consistent with the recommendations of the review, the Minimum Conditions (Clearing) cover the following: (i) adequate regulatory arrangements; (ii) appropriate safeguards in the settlement process; (iii) access to settlement infrastructure on non-discriminatory, transparent, fair and reasonable terms; and (iv) appropriate interoperability arrangements between competing cash equity central counterparties. The Minimum Conditions (Clearing) clarify that the Australian Securities and Investments Commission and the Reserve Bank of Australia would not be in a position to recommend the approval of a licence application from a competing clearing provider until the legislative framework underpinning the Minimum Conditions (Clearing) was in place and detailed specific requirements under Minimum Conditions (Clearing) had been developed. The Council of Financial Regulators and the ACCC expect to review the Minimum Conditions periodically, including in the event of material changes to the operating environment or market structure for these services, such as the emergence of a competing settlement facility.

The Minimum Conditions (Clearing) have been developed with reference to the prevailing market structure in settlement – in which there is a sole provider of settlement services. Recent rapid advances in technological developments may increase the prospect of competition emerging in this market. The Council of Financial Regulators and the ACCC will consider the need for specific policy guidance to be issued in respect of settlement facilities.

For further details, please see the Council of Financial Regulators policy statements:

Regulatory Expectations for Conduct in Operating Cash Equity Clearing and Settlement Services in Australia

Minimum Conditions for Safe and Effective Competition in Cash Equity Clearing in Australia