Loss of implicit government guarantee could cost big 4 Australasian banks a combined A$1b annually

By Gareth Vaughan

The Australian parents of New Zealand's big four banks may lose their implicit government guarantees, costing them up to A$1 billion annually combined through higher funding costs, analysts at Bank of America Merrill Lynch suggest.

In a research report entitled Unfinished business, Bank of America Merrill Lynch analysts Andrew Hill, Nicole Mehalski and Kevin Soo say the major Aussie banks - ANZ, ASB's parent Commonwealth Bank of Australia, BNZ's parent National Australia Bank, and Westpac - are facing a new regulatory head wind.

"Senior bank debt still carries an implicit government guarantee but regulators are working towards changing that. With recommendations due ahead of November’s Brisbane G20 meeting, regulatory uncertainty could again weigh on major bank share prices," Hill, Mehalski and Soo say.

The implicit government guarantee on the big four banks is recognised by credit rating agency assessments of bank credit risk.

"The IMF estimates the major banks enjoyed a funding benefit from the implicit government guarantee that exceeded benefits to the regional (Australian) banks by about 30 basis points pre-global financial crisis (GFC) and about 60 basis points in 2009. As of full (financial) year 2013 the major banks had outstanding term wholesale debt of A$478 billion."

"Assuming the IMF's 30 basis points benefit, we estimate that complete removal of the implicit government guarantee would imply a A$1 billion per annum or 3- 4% profit head wind for the major banks. We estimate this cost is roughly the same as (being a) domestic systemically important bank (D-SIB)," the analysts say.

"Importantly, bail-inable debt requirements come in addition to the 1% higher CET1 (common equity tier 1) requirement of D-SIB."

'No financial firm should be too-big-to-fail'

In December the Australian Prudential Regulation Authority (APRA) named the big four banks as D-SIBs under global regulation maker the Basel Committee on Banking Supervision's criteria. Such banks will have to hold additional capital, estimated at about A$1 billion by the Bank of America Merrill Lynch analysts. The post-GFC revamp of international bank capital adequacy rules, approved by the G20, incorporates the view that no financial firm should be "too-big-to-fail" and that taxpayers should not bear the cost of resolution.

"With high loan to deposit ratios the Australian banks are typically more reliant on wholesale funding than global peers which leaves the sector with relatively more downside from removal of the implicit government guarantee. We caution that the situation remains highly uncertain even at the global level," Hill, Mehalski and Soo say.

"Current proposals apply only to G-SIBs (global systemically important banks). While this does not include any Australian banks, we suspect APRA would be likely to replicate some form of global ‘too big to fail’ at the local level."

The analysts also note the Reserve Bank of Australia's recent Financial Stability Review touched on efforts to address the too-big-to-fail issue. And the Basel-based Financial Stability Board, with G20 support, is working on "gone concern loss absorbing capacity," which involves exposing the liabilities of an insolvent financial institution to loss.

"The RBA noted Australian authorities are involved in the effort to address the issue ahead of the Brisbane G20 summit in November. This was flagged by Bank of England Governor Mark Carney post the Sydney G20 meeting," the analysts say.

"Bail-in comes on top of D-SIB capital. Importantly, bail-inable debt requirements come in addition to higher loss absorbency requirements, which APRA addressed in December with its 1% D-SIB charge."

The RBNZ's position

Earlier this week the IMF, or International Monetary Fund, said banks deemed "too important to fail" borrow at lower interest rates than rivals and take bigger risks.

"Policymakers should aim to remove this advantage to protect taxpayers, ensure a level playing field, and promote financial stability," the IMF said.

In New Zealand the Reserve Bank last year introduced the Open Bank Resolution Policy (OBR), which might be used if a bank fails as an alternative to a liquidation or taxpayer funded bailout. Also last year, the Reserve Bank said it didn't believe New Zealand needs a D-SIB framework for ANZ, ASB, BNZ and Westpac.  

In February a spokesman told interest.co.nz the Reserve Bank "doesn’t operate a zero-failure regime," with no New Zealand bank too-big-to-fail.

"We have the Open Bank Resolution rules in place specifically to manage a bank failure, if such an unlikely event were to happen," the Reserve Bank spokesman said.

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