Archive | Banks

Published 26 June 2012

The Bank for International Settlements warned central banks at the weekend that if they didn’t correct underlying structural problems they would pave the way for another crisis.

The bank has some worthy advice to the world’s banks in its annual report – out Sunday, and unlikely to be carefully heeded in the next month of Sundays any more that its principles were heeded in the last monthful.

The bank’s report has Australia’s big 4 banks at the top of its performance chart – highest pretax profits among the 13 countries charted, fourth-highest net interest margin, sixth-lowest for loan loss provisions (behind 3 strong European nations, Japan & Canada, a fraction better than the Netherlands, and beyond that the provisions blow out) and fourth-lowest for operating costs.

The Bank for International Settlements is a bank for central banks. Its mission, apart from the day job, is “to serve central banks in their pursuit of monetary & financial stability and to foster international co-operation in those areas”.

In the politest of banking language, the Basel-based bank’s report puts the boot into the performance of banks around the world leading into the global financial crisis 5 years ago and failure to strive hard enough to make their own way out of it. It warns that the sheer scale of stimulus programmes may mean central banks won’t be able to tighten monetary policy when they need to and, if they don’t keep pressure on to cut debt, they could encourage new asset booms.

The good reading in this part of the world, the stronger performance of the Australian banks (and, by extension, New Zealand’s), is in a chart on page 79 comparing nations according to the performances of their major banks (55 in total).

The US (9 banks) somehow made it to third in pretax profit (0.93% of total assets, compared to Australia’s 1.19%), but was out on its own when it came to operating costs. Whereas Australia cut back from 1.24% to 1.17% of total assets last year, the US has become more bloated – operating costs at 2.98% in 2009, 3.22% in 2010 and 3.23% last year.

The Bank for International Settlements’ report commented: “Going forward, a decrease in official support would contribute to a healthier banking sector by ensuring that banks factor their inherent financial strength into business decisions. For one, the withdrawal of government guarantees would lead to stricter market discipline, giving banks an incentive to behave more prudently. More generally, lower official support would make it necessary for banks to improve their inherent risk profile in order to conduct traditional activities.

“While financial institutions struggle to overcome the effects of the crisis, they also confront a changed market environment & new regulations. In some places they have made significant progress on recapitalisation but their adjustment to the new conditions has a long way to go and needs to be pushed ahead. The magnitude of this unfinished business is clear from investors’ continued distrust of banks: the cost of buying compensation for a bank default (the spread on bank credit default swaps) is as high now as it was at the peak of the crisis, and bank equities continue to lose ground relative to the broad market.

“Despite the progress on recapitalisation, many banks remain highly leveraged, including those that appear well capitalised but in fact have outsize derivatives positions. Big banks continue to have an interest in driving up their leverage without enough regard for the consequences of failure: because of their systemic weight, they expect the public sector to cover the downside.

“Another worrying sign is that trading, after a brief crisis-induced squeeze, has again become a major source of income for large banks. These conditions are moving the financial sector towards the same high-risk profile it had before the crisis. Recent heavy losses related to derivatives trading are a reminder of the dangers associated with such a development. Surely, fundamental progress on the structure of the financial system will be marked when its largest institutions can fail without the taxpayer having to respond, and when the overall size of the sector relative to the rest of the economy stays within tighter limits.

“Some mechanisms can help align market participants’ interests with those of the public. One is the reform of remuneration policies at banks. Another involves bank bondholders, who together with the public sector are at risk of picking up the tab if a financial intermediary’s net worth turns negative. The incentives of bond investors will be better aligned with the public interest if the investors see more clearly that they will bear losses if banks get into trouble.

“This will require some combination of bail-in bonds– in which bondholders’ losses in resolution are known with some certainty beforehand – and improved resolution powers. Making risks to investors clearer and ending crisis-related support for banks, including government guarantees on their bonds, will push investors to better scrutinise the financial health of banks before investing in them. Greater transparency has a pivotal role to play here: it will increase bondholders’ ability to monitor the banks because the risks the institutions are taking will be more visible.

“In short, public policy must move banks to adopt business models that are less risky, more sustainable and more clearly in the public interest. Governments can give the banking sector a healthy push in this direction if officials make sure that newly agreed regulations are implemented universally and without delay. Apart from enhancing transparency, this would also ensure a level playing field for internationally active banks.

“Most importantly, authorities should continue forcing banks to bring leverage down – and keep it there by preventing them from deploying new instruments & tactics that would push it back up. But such efforts should not stop with traditional banks. Prudential authorities everywhere still face the challenge of putting in place robust regulations that extend to the shadow banking sector.”

In its background leading to these suggestions & conclusions, the bank also took aim at governments for being unwilling to take harder options: “The extraordinary persistence of loose monetary policy is largely the result of insufficient action by governments in addressing structural problems. Simply put: central banks are being cornered into prolonging monetary stimulus as governments drag their feet and adjustment is delayed.

“Any positive effects of such central bank efforts may be shrinking, whereas the negative side effects may be growing. Both conventionally & unconventionally accommodative monetary policies are palliatives and have their limits. It would be a mistake to think that central bankers can use their balance sheets to solve every economic & financial problem: they cannot induce deleveraging, they cannot correct sectoral imbalances and they cannot address solvency problems. In fact, near-zero policy rates, combined with abundant & nearly unconditional liquidity support, weaken incentives for the private sector to repair balance sheets and for fiscal authorities to limit their borrowing requirements. They distort the financial system and in turn place added burdens on supervisors.

“With nominal interest rates staying as low as they can go and central bank balance sheets continuing to expand, risks are surely building up. To a large extent they are the risks of unintended consequences, and they must be anticipated & managed. These consequences could include the wasteful support of effectively insolvent borrowers & banks – a phenomenon that haunted Japan in the 1990s – and artificially inflated asset prices that generate risks to financial stability down the road.

“One message of the crisis was that central banks could do much to avert a collapse. An even more important lesson is that underlying structural problems must be corrected during the recovery or we risk creating conditions that will lead rapidly to the next crisis.

“In addition, central banks face the risk that, once the time comes to tighten monetary policy, the sheer size & scale of their unconventional measures will prevent a timely exit from monetary stimulus, thereby jeopardising price stability. The result would be a decisive loss of central bank credibility and possibly even independence.

“Although central banks in many advanced economies may have no choice but to keep monetary policy relatively accommodative for now, they should use every opportunity to raise the pressure for deleveraging, balance sheet repair and structural adjustment by other means. They should also be doubly watchful for the build-up of new imbalances in asset markets.”

Link: Bank for International Settlements, annual report

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Attribution: Bank report, story written by Bob Dey for the Bob Dey Property Report.

Published 29 April 2009

Banks are forecasting an official cashrate cut of 25-50 basis points tomorrow. When Reserve Bank governor Alan Bollard releases his decision, he will say very little, but other economists have plenty to say in the lead-up to the decision.

Below, I’ve taken excerpts from the opinion of ASB Bank chief economist Nick Tuffley, economist Jane Turner & the Commonwealth Bank of Australia’s New Zealand economist, Chris Tennent-Brown on what the Reserve Bank should do, why it should do it and, perhaps more importantly, options for accompanying action.

They expect the Reserve Bank to cut by 50 points to 2.5%.

“Key indicators suggest the New Zealand economic outlook is weaker than the Reserve Bank previously expected. In addition, monetary conditions have tightened, with the currency appreciating and longer-term interest rates rising. If these current levels persist, they will undermine the projected economic recovery. Not only does the Reserve Bank need to cut by 50 basis points to keep monetary conditions loose, the Reserve Bank should be more explicit about keeping the cashrate low for a set amount of time to keep longer-term interest rate expectations at bay. It is time for a little commitment.”

The ASB economists said market watchers & central bank officials had become excited about the so-called “green shoots” sprouting up – signs of market revival: “The trend is global, and the New Zealand housing market is also starting to stabilise. In addition, the recent turnaround in net migration is another positive for the local housing market – it will help underpin demand for construction over the next few years. [I question this statement: The net migrant inflow remains weak, marginally positive.]

“Despite these green shoots, forecasts for world growth continue to be revised down, with the IMF the latest to heavily revise their view, not just for 2009, but seeing a much slower recovery over 2010 as well. The Reserve Bank is likely to be facing further downward revisions to New Zealand trading-partner growth, pushing out the export-led recovery a few more quarters. In addition, the domestic outlook (outside of housing) continues to deteriorate.

“In particular, the NZ Institute of Economic Research quarterly survey of business opinion (QSBO) delivered another grim reading on the economic outlook and will be challenging some of the Reserve Bank’s 2009 forecasts – particularly for investment & employment. The QSBO is a fairly reliable guide on near-term gdp and suggests that first-quarter gdp is likely to decline by a similar magnitude to the fourth quarter’s 0.9% contraction. More importantly for the Reserve Bank, further deterioration in investment & employment intentions implies its strong projected recovery over the second half of 2009 is unlikely to materialise.

“The Reserve Bank is likely to put a lot of weight on tentative signs of stabilisation. In addition, it is likely to point to the large amount of stimulus already delivered and yet to work though the pipeline. However, on balance the QSBO survey suggests that 2009 economic activity is likely to be weaker than the Reserve Bank previously expected. This means the Reserve Bank should probably cut by more than previously intended.

“The key reason we believe the Reserve Bank should cut by 50 basis points is the effective tightening in monetary conditions since the March monetary policy statement. Longer-term wholesale fixed interest rates have increased around 80 basis points and have resulted in some mortgage rates increasing sharply. Meanwhile, the $NZ has appreciated since the March statement, in sharp contrast to the Reserve Bank’s assumption of a further 10% depreciation.

“In the March statement projections, the Reserve Bank was heavily relying on a low exchange rate & low interest rates to deliver an economic recovery. If current levels of the $NZ & long-term interest rates are sustained, that recovery strongly risks being undermined. Even without the recent tightening in conditions, the Reserve Bank’s forecast recovery appeared unrealistically swift & early….

“The Reserve Bank wanted to wean the markets off expecting further large rate cuts, but in signalling it was close to the end of the easing cycle it triggered a mad rush by borrowers to fix for long terms before those rates rose too much further. Supply & demand forces dominated: over 2 weeks following the March statement, swap markets were flooded with ‘paying’ demand (borrows wanting to fix), and not enough supply of willing receivers (lenders). Interest rates went up to balance supply & demand.

“With mums & dads locking in for 5 years at rates that aren’t quite as stimulatory as the Reserve Bank assumed, it moved to issue an unprecedented statement in between meetings to calm borrowers & markets. However, the statement lacked any action, merely noting that the recent moves were ‘unwarranted’ & ‘inconsistent’ with its monetary policy outlook.

“Talk is cheap, and sometimes you get what you pay for. The statement had little lasting effect on the market and longer-term rates remain 80 basis points up on pre-monetary policy statement levels…..

“Deciding how much to cut by is only the half of the Reserve Bank’s decision in April. Equally important will be the sort of actions the bank takes to accompany a cut. In our view, it boils down to 3 options:

a.      Express similar concerns as the 1 April  statement (“inconsistent” & “unwarranted”) and hope that recent optimism in global markets reverses

b.      Combine a rate cut with an explicit commitment to keep the official cashrate at or below its new level for a defined period (along the lines of the Bank of Canada’s recent commitment to keep rates at a low level until the second quarter of 2010)

c.      Take more direct action to influence the $NZ or long-term interest rates such as forex intervention, bond purchases or participating in the swaps market.

“Option B stands a better chance at influencing longer-term interest rate expectations. A well designed statement with a 25bp cut could also be effective, but is a far riskier strategy given current market pricing. At this point the Reserve Bank would prefer to keep option C up its sleeve – but it would be the most effective.

“We see a good chance of the official cashrate heading to 2%. It’s an optimistic scenario to assume no more bad news. We really hope we are now on track for recovery, but sentiment remains fragile and the risks remain firmly to the downside…. If things get worse and confidence needs a boost, the Reserve Bank still has non-official cashrate options and shouldn’t hold back on rate cuts now.”

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Attribution: ASB report, story written by Bob Dey for the Bob Dey Property Report.

Published 13 October 2008

Finance Minister Michael Cullen announced an opt-in deposit guarantee scheme yesterday, covering deposits for New Zealand-registered banks & eligible non-bank

deposit-takers (including banking societies, credit unions & finance companies).

Details were released by the Reserve Bank & Treasury.

Reserve Bank Governor Alan Bollard & Acting Secretary to The Treasury Peter Bushnell said: "The purpose of the scheme is to assure New Zealand depositors that they can be assured their deposits are quite safe and the New Zealand financial system is sound."

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Attribution: Government, Reserve Bank & Treasury release, story written by Bob Dey for the Bob Dey Property Report.

Published: 10 October 2005

The high ratio of mortgages which are fixed has been tying the Reserve Bank’s hands when it’s wanted to take anti-inflationary measures, the ANZ Bank’s economists said today in their Market Focus newsletter.

“A whopping 80% of lending is now fixed, and for predominantly 1-2 years. While the Reserve Bank will gain policy traction over 2006, it will not be until mid-2007 that the full impact of monetary policy is felt – a full 40 months after the tightening cycle began,” they said.

While this implied the Reserve Bank was being cautious, the ANZ’s economists said the long lags, combined with the prevalence of inflation at present, also implied the Reserve Bank had little option but to ratify market pricing through a further hike in the official cash rate.

“Low interest rates on fixed-rate lending have been a source of frustration at the Reserve Bank. Low global interest rates, competitive pressures and a lack of policy traction along the curve have suppressed the follow-through from a higher official cash rate to retail interest rates & the economy, which in turn has elongated the economic cycle.”

But change is coming – the ANZ said fixed rates on 1- & 2-year loans had risen by 40 basis points in the past 2 months and were up 100 points on the end of 2004, with another round of short-term fixed-rate loans coming through.

The ANZ said 60% of total lending had shifted to fixed rates in 2002, rising to 75% by the end of 2004 and heading towards 80% now, and Reserve Bank data revealed 41% of current fixed-rate lending was for less than one year, with another 46% up to 2 years. Based on an average interest rate of 7.2% for loans with less than one year to run, and a reset rate of 8%-plus, the average $120,000 renewal would cost $1000 more/year.

“An estimate based on Reserve Bank data indicates around 280,000 households are in this basket, with a potential charge on the household sector of $280 million (around 0.3% of gdp).”

The ANZ economists said another wave of borrowing was insulated until 2007.

If you want to comment on this story, write to the BD Central Discussion forum or send an email to [email protected].

Maximum 2 years’ growth in this housing cycle

The rise in the housing market has been unduly over-hyped, Bank of New Zealand economist Tony Alexander says.

He told an Auckland breakfast (hosted by Taradale Developments’ Tim Manning) last Thursday there were numerous reasons why the price rises this time round wouldn’t match that of the 90s, the first being the change in immigration makeup. However, he expected the immigration flow to continue another 18 months, perhaps turning negative in 2004.

Mr Alexander said the growth in plant, machinery & equipment would mean capacity had to be increased, equating to more factories/warehouses & upward pressure on industrial rents.

“We think the unemployment rate will rise this year, but there will be 2% growth in jobs, 3% next year. Job security will maintain consumer confidence.” He said the housing upturn had a positive effect on the economy.

Interest rates would be a stimulating factor. He said the BNZ expected rates to be back up to 8% in about 3 months. The lag effect of previous cuts would continue for about 12 months, then interest rate rises would flow through.

Cutting rates too far brings later dangers

“Post 11 September, interest rates around the world were cut too far — you get more inflation further out. The risk is, floating interest rates will go higher in late 2003/2004 because of the high liquidity sloshing around the world. Fixed rates have gone up 1.5% since November.”

He said the BNZ view was that the Reserve Bank would make 4 increases of ¼% in the official cash rate for a total 1% rise over the next 4-5 months to remove over-stimulating conditions.

“For homeowners, 3-year fixed is getting expensive, 2-year is better, and you reach a point where you don’t fix at all.

For business, there might be a smaller opportunity for 1-2 year fixed, but mostly business should think of floating loans.

“The key thing to watch out for is a repeat of 1998, when the floating rate hit 11%, 5-year fixed was 9.3%. Within 6 months floating was at 6.5%, fixed 7%. It won’t be the same numbers or the same gap this time.”

Start of house price rise from higher point

On average, house prices rise 1.5% more than inflation. But Mr Alexander said the rise time had begun not in the cheap position of 1993, when the rise spiralled out from inner Auckland suburbs such as Morningside & Grey Lynn.

Looking at Auckland house prices, he said they were 15% above inflation in 1988, 155 below in 1993, 10% above in 1997 but only 3% below now.

“We have the absence this time of the fresh savings message [from politicians]. We have a disinvestment-in-super rate of about 5%, and you don’t have that massive decline in interest rates this time.”

Mr Alexander said the ratio of debt:income 10 years ago was 60%, but now was 120%. “We haven’t just had 6 years of no growth in the economy.”

He predicted the housing market would have good growth for a maximum of 2 years.

On a wider scale, “you will see more & more of New Zealand owned overseas. Where we’re missing out is, we don’t have the financial assets on the other side.”

ASB economist says supply of new homes not matching demand

The ASB Bank’s quarterly housing confidence survey showed 54% of respondents (63% in Auckland) thought house prices would rise despite the gradual rise in interest rates over the June quarter, compared to 40% in the March survey.

The bank’s chief economist, Anthony Byett, attributed this to 3 things: a continued rise in personal income, ongoing high net immigration flows and a continued undersupply of houses.

Mr Byett said rising interest rates & house prices had quelled demand, but the volume of new housing was still below the level of demand.

In addition, house price rises overseas (20% in a year in England) make New Zealand comparatively cheap.