Another day, another investment bank providing scary headlines about our banks and housing – Australia is the advanced economy most vulnerable to a household-debt-induced downturn, according to Morgan Stanley.
And odds are that the reporting of a speech by Reserve Bank assistant governor Michele Bullock will concentrate on the risks and challenges she lists. That would be unfortunate, as the overall tenor of Ms Bullock’s review is that our banks have come a long way since the GFC and are among the world’s strongest, if not the strongest, on key counts.
What’s more, the RBA assessment points to the banks being plenty strong enough to handle the costs that will flow from the royal commission.
Our financial system could even come out stronger for the attention it’s copped.
Perhaps the most important line in Ms Bullock’s review of building resilience in our financial sector is that our banks have just about completed the capital raising that was required of them by the Australian Prudential Regulation Authority (APRA) after the GFC.
It’s been a big, multi-billion-dollar job. For example, the major Australian banks’ Tier 1 capital ratio was around 7 per cent when the GFC hit. It’s now around 12.5 per cent, making it easier for banks to absorb losses in hard times.
Ms Bullock says that, adjusted for APRA’s relative conservatism, our bank’s capital ratios are around 17 per cent on an internationally comparable basis – at the high end compared with other advanced nations.
The banks boosted their capital buffer through direct equity raising, plus retained earnings and dividend reinvestment plans. With the capital ratios close to right, those same sources of funds are available to meet the royal commission costs that are coming home to roost. (There was a demonstration of the strength of our banks in the CBA’s annual results announced in August. Despite a $700 million AUSTRAC fine and $155 million for sundry royal commission expenses, the CBA’s full-year profit only dipped 4.7 per cent to $9.41 billion. Its cash profit was up 3.7 per cent to $10.1 billion.)
Ms Bullock underlined that our banks’ funding as well as balance sheets were more resilient, with domestic deposits providing about 60 per cent and short-term debt down to 20 per cent.
All of which indicate the sort of strength a central banker likes to see in banks – especially when they’re coming to terms with cultural behaviour.
As the assistant governor put it: “International experience has shown that poor culture can have a significant, adverse impact on banks, including on their financial performance and capital position through remediation costs and fines.
While the royal commission has brought to light some poor behaviour by the Australian banks, the direct financial impact on them has been relatively modest so far.
“The fines to date are relatively small compared with the major banks’ combined profits of around $30 billion per annum. But there are also costs from remediation of past behaviour, which have been reflected in banks’ profit announcements in recent times, and there is also the possibility of class actions. And there are also likely to be increased costs of compliance which will be ongoing.
“More broadly, there has been very little share price growth over recent years which has had an impact on shareholder returns. And changes to business models to address the risk of future misconduct could more permanently impact banks’ financial performance. These changes, however, are likely to increase the resilience of the financial sector in the medium term, even if at the expense of lower returns.”
So there are challenges and costs, but the cornerstones of our financial system (and vital parts of our stock exchange and superannuation holdings) appear able to handle them. And while non-bank lending has picked up, there are limits to how big it can grow.
There are other challenges – yes, we have a high level of household debt, there are uncertainties about China, cyber attacks are a constant threat, Donald Trump’s trade war is a worry.
If there was an international crisis, of course we would feel it, but Australia’s banks are more resilient than they were before the GFC and Ms Bullock assures us that the RBA “remains vigilant”.