Tag: New Zealand

NZ’s plan for deposit insurance falls well short of protecting people’s savings

From The Conversation.

The New Zealand government’s plan to introduce deposit insurance is a welcome step. Last week, finance minister Grant Robertson announced a new deposit protection regime to make the banking system safer for customers and to strengthen accountability for banks’ actions.

Worldwide, 143 countries have deposit insurance schemes, and New Zealand has long been an outlier. It is high time one was introduced.

How deposit insurance works

Currently, if a bank fails in New Zealand, depositors could lose all or some of their savings. Deposit insurance would change that and protect depositors’ savings. It operates like other types of insurance. If disaster strikes and a bank fails, depositors’ savings would be repaid up to a set limit.

According to Reserve Bank data, New Zealand households store about NZ$177.98 billion of their cash resources in banks. The proposed plan is important for all New Zealanders. Most people with a bank account are retail depositors and may be unaware of the vulnerable position they could find themselves in.

Under the Reserve Bank’s controversial open bank resolution policy, if a bank is distressed and under statutory management, part of a retail depositor’s savings may be frozen and used to recapitalise the bank, if shareholder and subordinated creditor funds prove insufficient. Essentially, New Zealand retail depositors would have to bail out their banks, unlike retail depositors in other countries who are protected by deposit insurance up to a set limit.

Apart from protecting depositors, the insurance helps to maintain stability in the financial system. It operates primarily to stop bank runs where depositors, afraid that they will lose their money, all demand repayment at once. Images of people lining up outside banks and at ATM machines all trying to get their money out were a feature of the 2007-2008 Global Financial Crisis (GFC). If people are confident that they will get their money back quickly from deposit insurance, they do not need to “run” on their banks.

Banks own the money you deposit

Depositors are vulnerable because once their money is with a bank, it no longer legally belongs to them. It belongs to the bank which can use it for its own commercial purposes. Typically, banks will lend this money to individuals and businesses (for example, through mortgages), making a profit by charging interest. In return, depositors get the right to repayment of their savings on demand.

Banks have fragile business models because they borrow short (through deposits which are repayable on demand) and lend long (through mortgages and other loans that are repayable at a fixed date in the future). Banks do not hold sufficient funds to repay all, or even most, of their depositors at once. Bank regulation provides some protection because banks are required to maintain certain levels of capital and liquidity, but if depositors panic and enough of them demand repayment, a bank can very quickly become insolvent.

Problems in one bank can pass to other banks and from banks to other types of businesses like a virus (this process is known as contagion). Eventually, this can build up to a financial crisis and lead to a recession, just as the GFC did in New Zealand and in many other countries. In a recession, almost everyone suffers, but the burden often falls most heavily on the poorest in society who have few assets to fall back on.

Protecting people and businesses

Retail depositors provide the bulk of bank funding in New Zealand (more than 60% of bank funding comes from households) and they currently carry a degree of risk of bank failure but are not properly protected by the law.

The Reserve Bank has traditionally opposed deposit insurance because of “moral hazard”. Their argument has been that protecting retail depositors from bank failure would discourage depositors from monitoring and disciplining their banks by withdrawing their savings if banks engage in overly risky activities.

This argument is based on the premise that retail depositors are capable of monitoring their banks, which requires a high level of financial literacy. The weakness in this argument was exposed during the GFC when New Zealand was forced to establish a temporary deposit guarantee scheme to reassure depositors that their savings were safe. Other countries, like the UK, recognise this vulnerability and provide an appropriate level of deposit insurance.

The New Zealand government has proposed a limit of between NZ$30,000 and NZ$50,000, saying that this would cover up to 90% of depositors. But this is well below the limits set by other comparable countries. For example, the limit is about NZ$374,000 in the US, NZ$114,000 in Canada, NZ$161,000 in the UK and NZ$262,000 in Australia.

If the limit is too low, the risk is that the deposit insurance scheme will not stop bank runs and not protect financial stability and the economy. It could even cause pre-emptive bank runs. If that happened, the government would need to urgently increase the deposit insurance limit and take other extraordinary measures, but this can lead to other difficulties, including increased overall costs, which ultimately fall back on the taxpayer.

Defining the best limit

One rule of thumb says the limit should be two to three times a country’s per-capita GDP. For New Zealand, this would mean between NZ$100,000 and NZ$150,000.

The government should be given credit for raising the issue of deposit insurance – a scheme should have been introduced years ago. But the low limit was proposed without public consultation. That is wrong.

The deposit insurance limit should not be decided solely by the Reserve Bank and Treasury. Other stakeholders have an important and valuable contribution to make. The debate should be transparent and well informed.

The second phase of the current review of the Reserve Bank Act will look at how a deposit insurance scheme should be funded. It should also include public consultation on the optimal level of deposit insurance. Having finally got the issue on the table, we should not squander the opportunity to do something important for New Zealanders.

Author: Helen Mary Dervan, Senior lecturer in law BCL(Oxon), TEP, Auckland University of Technology

Westpac warns on rise of non-banks in NZ

Like Australia, New Zealand is consulting on the capital requirements for its top banks, to mitigate their risk of failure. The Reserve Bank of New Zealand (RBNZ) received 160 industry submissions in the last round of consultation, including contributions from Australia’s major banks with Westpac voicing “significant concerns” around the advantages that could be handed to non-banks. Via AustralianBroker.

The submission not only highlighted the significant opportunity created for non-banks by increasing the regulation on traditional banks, but indicated that the changes would unfairly inhibit its participation in the market. 

It reads, “As the costs of credit rise, these [non-bank] alternatives become more attractive to New Zealanders. And as digital capability evolves to maturity, the potential for such models to emerge, and emerge quickly, has increased materially.”

Westpac’s submission drilled down yet further, going on to question the wisdom of instituting regulation “with the potential to re-ignite the shadow banking system”.

“Should the capital requirements…increase, it creates an incentive for other lenders outside of the registered banking system to provide credit, because they can do so more cost effectively.

“The RBNZ’s proposals…may support the emergence of unregulated, less capitalised entities which, as we have seen in past cycles, can weaken the stability of the whole financial system.”

NAB communicated similar concerns in its response.  

Its submission says that the steady increase in “regulatory burden” being put on banks is responsible for over half (55%) of the growth evidenced in the non-bank sector between 2007-2017, a statistic attributed to Xavier Vives.

According to NAB, the conversation around competition is particularly important given that New Zealand is operating on an open data system, which allows consumers to move their transactions between institutions with ease.

Crucially, this means there could be many lessons for Australia to take from New Zealand’s experience. As of October 2018, lending growth in Australia’s non-bank sector was occurring at a rate over 11% annually, the strongest since October 2007 according to RBA and CommSec data (see graph). Further, stage one of open banking launched on Monday and proposed revisions to the capital framework for ADIs are expected to go into effect from 1 January 2022, following another round of consultation.

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NZ Reserve Bank Holds Cash Rate

The Official Cash Rate (OCR) remains at 1.5 percent. Given the weaker global economic outlook and the risk of ongoing subdued domestic growth, a lower OCR may be needed over time to continue to meet our objectives.

Domestic growth has slowed over the past year. While construction activity strengthened in the March 2019 quarter, growth in the services sector continued to slow. Softer house prices and subdued business sentiment continue to dampen domestic spending.

The global economic outlook has weakened, and downside risks related to trade activity have intensified. A number of central banks are easing their monetary policy settings to support demand. The weaker global economy is affecting New Zealand through a range of trade, financial, and confidence channels.

We expect low interest rates and increased government spending to support a lift in economic growth and employment. Inflation is expected to rise to the 2 percent mid-point of our target range, and employment to remain near its maximum sustainable level.

Given the downside risks around the employment and inflation outlook, a lower OCR may be needed.

Meitaki, thanks.

Summary record of meeting

The Monetary Policy Committee agreed that the outlook for the economy has softened relative to the projections in the May 2019 Statement.

The Committee noted that inflation remains slightly below the mid-point of the inflation target and employment is broadly at its maximum sustainable level. The Committee agreed that a lower OCR may be needed to meet its objectives, given further deterioration in the outlook for trading-partner growth and subdued domestic growth.

Relative to the May Statement, the Committee agreed that the risks to achieving its consumer price inflation and maximum sustainable employment objectives are tilted to the downside.

The members noted that global economic growth had continued to slow. They discussed the recent falls in oil and dairy prices, and that several central banks are now expected to ease monetary policy to support demand.

The Committee discussed the ongoing weakening in global trade activity. A drawn out period of tension could continue to suppress global business confidence and reduce growth. Resolution of these tensions could see uncertainty ease.

The Committee discussed the trade, financial, and confidence channels through which slowing global growth and trade tensions affect New Zealand. The members noted in particular the dampening effect of uncertainty on business investment. Some members noted that lower commodity prices and upward pressure on the New Zealand dollar could see imported inflation remain soft.

While global economic conditions had deteriorated, the Committee noted that domestic GDP growth had held up more than projected in the March 2019 quarter. The members discussed disparities in growth across sectors of the economy, with construction strong and services weak. The members also discussed whether some of the factors supporting growth in the quarter would continue.

The members noted two largely offsetting developments affecting the outlook for domestic growth: softer house price inflation and additional fiscal stimulus.

The Committee noted that recent softer house prices, if sustained, are likely to dampen household spending. The Committee also noted the recent falls in mortgage rates and the Government’s decision not to introduce a capital gains tax. 

The Committee noted that Budget 2019 incorporated a stronger outlook for government spending than assumed in the May Statement. The members discussed the impact on growth of any increase in government spending being delayed, for example due to timing of the implementation of new initiatives and current capacity constraints in the construction sector.

The members discussed the subdued nominal wage growth in the private sector and the apparent disconnect from indicators of capacity pressure in the labour market. The Committee discussed the possibility of this relationship re-establishing. Conversely, the continuing absence of wage pressure could indicate that there is still spare capacity in the labour market. Some members also noted that reduced migrant inflows could see wage pressure increase in some sectors.

The Committee discussed whether additional monetary stimulus was necessary given continued falls in global growth and subdued domestic demand. The members agreed that more support from monetary policy was likely to be necessary.

The Committee discussed the merits of lowering the OCR at this meeting. However, the Committee reached a consensus to hold the OCR at 1.5 percent. They noted a lower OCR may be needed over time.

IMF Says New Zealand Faces Downside Risks, But Migration May Help To Mitigate Them

The IMF just published their concluding Statement of the 2019 Article IV Consultation Mission to New Zealand.

They conclude:

New Zealand’s economic expansion lost momentum recently. The near-term growth outlook is expected to improve on the back of a timely increase in macroeconomic policy support. Downside risks to the growth outlook have increased but New Zealand has the policy space to respond should such risks materialize.

Macroeconomic policy settings are broadly appropriate, while macroprudential policy settings are attuned to macrofinancial vulnerabilities in the household sector, which have started to decline but remain elevated.

Financial sector reform in the context of the Review of the Capital Adequacy Framework and the Review of the Reserve Bank of New Zealand Act should provide for a welcome further strengthening of the resilience of the financial system and regulatory framework.

The government’s structural policy agenda appropriately focuses on reducing infrastructure gaps, increasing human capital, and lifting productivity, while seeking to make growth more inclusive and improve housing affordability.

Within the statement they warn that:

Risks to the outlook are increasingly tilted to the downside. On the domestic side, the fiscal stimulus could be less expansionary if policy implementation were to be more gradual than expected, and the domestic housing market cooling could morph into a downturn, either because of external shocks or diminished expectations. On the external side, global financial conditions could be tighter and dairy prices could be lower. Risks to global trade and growth from rising protectionism have increased, and this could have negative spillovers to the New Zealand economy, including through the impact on China and Australia, two key trading partners. High household debt remains a risk to economic growth and financial stability, and it could amplify the effects of large, adverse shocks. On the upside, in the near term, growth could be stronger if net migration were to decrease more slowly than expected or if the terms of trade were to be stronger.

With regard to macroprudnetial they warn:

The scope for easing macroprudential restrictions is limited, given still-high macrofinancial vulnerabilities. The shares of riskier home loans in bank assets (those with very high LVRs, high debt-to-income, and investor loans) has moderated due to the combined impact of the LVR settings and tighter bank lending standards. However, with the RBNZ’s recent easing of the LVR restrictions, improvements in some macroprudential risk factors such as credit growth have recently stalled or started to reverse. Further easing of LVR restrictions should consider the possible impact on banks’ prudential lending standards, as well as the risks to financial stability from elevated household debt.

NZ Reserve Bank requests assurance reports of ANZ New Zealand

The New Zealand Reserve Bank is requesting two reports from ANZ New Zealand to provide assurance it is operating in a prudent manner.

They say, that section 95 of the Reserve Bank of New Zealand Act 1989 gives the Reserve Bank the power to require a bank to provide a report by a Reserve Bank-approved, independent person. These reviews can investigate such issues as risk management, corporate or financial matters, and operational systems.

The first report will cover ANZ New Zealand’s compliance with the Reserve Bank’s current and historic capital adequacy requirements.

The second report will assess the effectiveness of ANZ New Zealand’s Director’s Attestation and Assurance framework, focussing on internal governance, risk management and internal controls.

Reserve Bank Governor Adrian Orr said ANZ remains sound and well capitalised.

“We continue to engage constructively with ANZ New Zealand’s board, and they remain focussed on these important issues. These formal reviews will allow us to work with the bank to ensure the public, and we as regulator, can have continued confidence in the bank and that it is operating in a prudent manner.”

“Section 95 reports are part of our supervisory toolkit and provide independent assurance and insight about banks’ systems and practices. We have used them effectively in the past, and we will continue to do so.”