Govt still on track to get rid of little-used deposit guarantee scheme at end of year, despite Aussie scheme's extension, Finance Minister English says

By Alex Tarrant

The New Zealand government says banks here are in a strong enough position for it to go ahead with the removal of its deposit guarantee scheme, after the Australian government decided to extend its scheme into next year and beyond.

New Zealand’s banks have opted to not be covered by the New Zealand scheme, which only covers selected deposits in a handful of finance companies and building societies until the end of the year, although they still can opt in for a fee.

The scheme was announced by former Prime Minister Helen Clark in October 2008, covering deposits in all financial institutions after the Australian government indicated it was about to introduce a similar scheme due to global turmoil following by the collapse of US investment bank Lehman Brothers.

Originally designed to end in October 2010, the government extended the scheme until December 31, 2011, giving institutions the choice of whether to be covered or not. New Zealand's banks at the time decided not to be covered by the guarantee, saying they were strong enough to operate without it.

Australian Treasurer Wayne Swan last weekend announced the government there would extend its 'Financial Claims Scheme' covering deposits of up to A$1 million to February next year. From February 1, the cap would be lowered to A$250,000 for an unlimted.

"It will ensure that we continue to have one of the most generous and secure deposit insurance schemes in the world, and builds on the Government's record of ensuring our financial system remains among the strongest in the world," Swan said in a media release on September 11.

The move was welcomed by Australian banks, considered as being among the safest in world.

However the move was critisised by the director of the Australian Centre for Financial Studies research, Kevin Davis, who said it could present a problem for New Zealand banks which would not have the same cover. That meant there was a risk of a drain on New Zealand bank deposits, as New Zealanders would be covered by the Australian scheme if they invested across the Tasman.

'We don't need one'

But New Zealand Finance Minister Bill English was confident banks here were in a strong enough position to not need such a guarantee, and said the government was on track for removing the New Zealand  scheme at the end of the year. 

“The actions the Reserve Bank has taken over the last couple of years have put out banks in a stronger position, and we’re headed to removal of the deposit guarantee scheme completely by the end of the year,” English told media in Parliament buildings on Tuesday.

“I think it’s important that banks are structured in a way that mean they can handle the risks of operating in world financial markets, and the taxpayer should not be put in the position where they have to pick up any losses incurred by banks,” he said.

“We’ve been able to move to remove the scheme completely. The Australians have always had a scheme there of some sort. They’re reducing the scope of their scheme quite considerably, so we’re both headed in the same direction. But I think we’ve got to the point of removing the taxpayers’ underwrite of the banks by the end of this year.”

Why not?

New Zealand and Australia were heading down different paths in terms of how they handled bank failures, with the New Zealand government, through the Reserve Bank, looking at ways to ensure taxpayers would not be paying if a bank fell over.

The RBNZ is currently looking at implementing an 'Open Bank Resolution' policy, which would lead to lower expectations of the government using taxpayer money to bail out a failed bank, and more pressure on a bank's shareholders to stabilise a bank if it got into strife.

In August, Moody's analyst Marina Ip told interest.co.nz's Gareth Vaughan that the OBR policy - effectively a 'living will' policy - "clearly outlines" an alternative step that could be taken in the event of a bank failure whereby shareholders and debt holders - working up through subordinated to secured and senior debt holders - would pick up the tab.

"Because this is one of the tools that they may use, it does from a government point of view, have less expectation that the government will use its own funds to bail it out and that it will now most likely rely on the equity holder to stump up first for the support and then it goes up the (debt holder) ranking in terms of level of claim," Ip said.

She added, however, that the OBR policy was only one of the tools the Reserve Bank could use "to bring a bank back to life." What ultimately happened could depend on the size of losses.

"If it was a small amount they might put it (OBR) into play because they could be easily absorbed by an Australian parent by injecting capital to cover. If (losses) are slightly larger there could be a different decision because from a franchise and reputation position New Zealand might not want to see one of its banks attract negative headlines," Ip said.

"If it's something more systemic, if there's two or three banks involved, they might react differently," she said.

See more here on the Reserve Bank's pre-positioning for Open Bank resolution in Gareth Vaghan's March 28 article, RBNZ sets out to ensure shareholders and creditors absorb cost of any bank failure, not taxpayers.

(Updates with section on OBR)