New Zealand Banks Need Bigger Capital Buffers, Central Bank Says

(C) Bloomberg. A pedestrian walks past the Reserve Bank of New Zealand (RBNZ) building in Wellington, New Zealand, on Saturday, June 22, 2019. The out-of-favor kiwi dollar has tumbled about 3% this quarter as the Reserve Bank of New Zealand turned dovish and cut interest rates, the first central bank in the developed world to do so. Economic growth held at a five-year low in the three-months through March, leaving the door open for further easing. Photographer: Birgit Krippner/Bloomberg

(Bloomberg) — New Zealand’s central bank said a stress test it ran on lenders to assess their resilience to economic shocks supports its decision to require bigger capital buffers.

While all banks would survive a downturn that might occur once every 50 to 75 years, their capital levels would fall below minimum requirements when faced with a 1-in-200 year event, the Reserve Bank said Thursday in Wellington. The test “illustrates the benefit and necessity of shoring up bank capital in the good times to provide resilience,” the RBNZ said. “The Covid-19 pandemic has demonstrated that large shocks can occur with very little warning.”

The RBNZ decided at the end of last year to increase capital requirements for banks, but delayed implementation of the new rules until July 2021 after the arrival of the coronavirus pandemic. It is now considering whether a further delay is warranted as it encourages banks to keep lending during the economic slump.

A decision is due by Nov. 25, when the bank publishes its next Financial Stability Report.

“All options are on the table,” Head of Financial System Policy and Analysis Toby Fiennes told a media briefing today. “We do not want the banks to be challenged at meeting higher levels of capital while we also want them to use the buffers that they have to support the economy through their lending. In an ideal world, Covid would have hit after they built up those buffers.”

The original plan called for banks to increase buffers over seven years. The largest lenders, which are all Australian-owned, would need to raise their level of high-quality Tier-1 capital to 16% of risk-weighted assets, amounting to a total of about NZ$20 billion ($13 billion).

If the RBNZ presses ahead, it will be asking banks to increase capital at a time when their profits may be eroded by historically low interest rates. The RBNZ is buying bonds to reduce borrowing costs during the recession, and has said it may take its benchmark rate into negative territory next year.

“The onset of the Covid-19 pandemic provides a stark reminder to us all of the importance of being prepared for the unexpected, especially when you are a systemically important bank at the core of New Zealand’s financial system,” Deputy Governor Geoff Bascand said in a statement with the stress test results. “The more capital a bank holds, the better it can weather economic storms and meet customer needs during tough times like now.”

The central bank instructed banks earlier this year to suspend dividend payments during the Covid crisis.

“The results of this stress test supports decisions that were made as part of the Capital Review to increase bank capital levels,” the RBNZ said today. “The findings will help to inform Reserve Bank decisions on the timing of the implementation of the Capital Review, and any changes to current dividend restrictions.”

(C)2020 Bloomberg L.P.