While a lot of things are ‘unknown knowns’ in finance, there’s an awful lot of ‘known knowns’ too – and one of those is about to hurt mortgage holders.
The Australian Prudential Regulatory Authority (APRA) has announced it will require big and small banks to hold more capital in reserve as a buffer against financial shocks.
That has forced the government to adopt APRA’s view that the effects of such a tightening are unknown, but probably benign.
Treasurer Scott Morrison said on Wednesday that the change “should not significantly impact loan pricing or consumers’ ability to access finance” and shouldn’t affect “business growth plans, dividends policies or [require the banks to undertake] equity capital raisings.”
Actually, the effects are more certain than that. Like a balloon squeezed at one end, the cost of holding extra capital has to bulge out somewhere else – either as lower profits and dividends, or higher borrowing costs charged to customers.
The other option is for banks to raise capital through new share issues, which effectively dilutes the earnings per share – analysts say the Commonwealth Bank is in the most likely to take this route.
The big four banks have a long tradition of passing on new costs to borrowers, and although not large in this case, the APRA change will be exacerbated by increases in the banks’ offshore borrowing costs plus changes to the way they are required to calculate the risk of their loan portfolios.
A double blow
The APRA move comes just a day after the RBA reminded borrowers that it considers its ‘neutral’ cash rate – the rate at which it is trying neither to slow nor stimulate the economy – to be 200 basis points higher than today over the longer term.
Mortgage rates are not determined solely by the short-term borrowing rates the RBA has control over, but as a rough proxy for future rates it is warning mortgage holders to add a ‘2’ to the first part of their home-loan rate.
Current standard variable rates – or, rather, the more accurate ‘comparison’ rate which includes all fees – are sitting at about 5.3 per cent, so households need to ask themselves if they can afford 7.3 per cent in a couple of years time.
This is an inevitable change that many lending managers have glossed over with customers in the past couple of years.
It’s also what former Treasurer Joe Hockey failed to mention when he said there had “never been a better time to borrow” in 2013.
In the midst of an expanding credit bubble, only a few voices were pointing out that when record-low interest rates normalised due to global forces, or if local macroprudential measures put the squeeze on home loan rates, our record private debt would become a problem.
Well we’re on a one-way trip to realising that problem now.
For a very long time Australian banks got away with soaking up too much of the nation’s working capital. The big four banks shares make up a monstrous 25 per cent of the value of the ASX200, while the nation’s biggest employers, Wesfarmers (owner of Coles) and Woolworths are worth just 5 per cent.
For too long the banks have lent at levels that could only be made ‘safe’ by an implicit government guarantee of their liabilities.
And for too long politicians in Canberra told voters to disregard the common-sense notion that huge debts were a problem.
The APRA tightening is just a small step towards returning banks a more traditional role – not stoking a credit bubble, but sensibly leveraging the savings of some households and businesses, to allow other households and businesses to expand.
That more subdued role should, eventually, start to ease Australia’s private debt problem.
But that’s little comfort for the generation that took on eye-watering debts at record low interest rates – the generation that will be hurt most by the ‘balloon bulge’ of rising bank costs.
