The Final Report of the Murray Inquiry recommends an increase in the amount of capital to be held by Australian authorised deposit-taking institutions (ADIs), to keep them in the top 25% in global rankings.
This will potentially require them to hold a further 1% in regulatory capital, and could also require further equity capital raisings to achieve what the Report calls “a safety buffer to absorb losses”.
ADIs have already successfully raised further capital this year, so finding investors should not be too hard. However, if ADIs pass on the cost of holding such capital to business and consumers, it may add an estimated 10 basis points to funding costs.
At a time when we may have reached an inflection point between bank lending rates and costs of equivalent funding in the debt capital markets, these additional bank costs may encourage borrowers to prefer the debt capital markets.
The Report also encourages greater issuance of corporate bonds with a proposed relaxation of the disclosure rules for large listed corporate issuers (including banks). We can assume then that the Inquiry is not concerned about the potential shift in corporate funding risk from the banking to debt capital markets.
In addition, the Report supports the implementation of a framework for minimum loss absorption and recapitalisation capacity, in line with emerging international practice that is driven by the “too big to fail” concern. This is about “bail-in” capital. The Inquiry has enunciated a lingering worry that investors will rely on an implicit government guarantee of ADIs, which could mean that the taxpayer suffers as a result.
Loss absorbing or recapitalisation measures will have already found their expression in “non-viability” conversion triggers on certain types of subordinated debt or other similar debt instruments. If investors have bought on this basis without requiring a commensurately higher return, then ADIs may not find this requirement too troublesome.
The Inquiry also considered some competitive disparities between the largest six banks and smaller banks and recommended an increase in the average internal ratings-based (IRB) mortgage risk weight.
The proposal to narrow the difference between average mortgage risk weights for ADIs using IRB risk-weight models and those using the standardised risk weight should be welcomed by regional banks and other ADIs that have been using the latter system.
The proposal should reduce the competitive disadvantage of the smaller ADIs by having to hold more capital to mortgage exposures than IRB-based banks.
Conversely, the IRB-based banks will consider this an unnecessary increase in capital for institutions whose mortgage books performed very well during the global financial crisis, particularly compared to offshore banks. If implemented, the increased costs are likely to be passed on to the long-suffering consumer but there may be a bit more competition in the home loan market.