Banks well-placed to weather downturn - Reserve Bank

New Zealand's banks are strong enough to withstand a sharp downturn, and would be able to stay within regulatory requirements, according to the Reserve Bank.

The central bank, in conjunction with the Australian Prudential Regulation Authority, stress tested New Zealand's banks this year to see how they would stand up under two adverse scenarios, it said in its six-monthly financial stability report.

The first scenario modelled a sharp Chinese slowdown triggering a double-dip recession, leading to shrinking exports and high unemployment, designed to match the experience of some of the more severely affected economies in the 2008 global financial crisis, and the second scenario mapped out a significant increase in interest rates due to a stronger-than-expected recovery followed by disruption to major oil production and the subsequent fall-out.

New Zealand's major Australian-owned lenders had sufficient underlying earnings to face negative profitability in only one year in each scenario, meaning they could conserve their capital levels and stay within regulatory limits. The banks also said they would undertake measures to mitigate risks, such as cutting staff, and reduce discretionary spending, which would help return them to profitability.

"The results of this stress test are reassuring, as they suggest that New Zealand banks would remain resilient, even in the face of a very severe macroeconomic downturn," the central bank said in its report.

Its own testing of five locally-owned banks - Heartland New Zealand, SBS, Cooperative Bank and TSB - assessed their resilience to a large increase in credit losses as a result of a severe domestic recession and big increase in credit losses.

"All participating banks appear to be resilient to a major downturn of this nature, with no bank breaching minimum capital requirements," the bank said.

In its May financial stability report, the bank said it was developing a stress testing framework for local lenders, with the Australian-owned banks already participating in the APRA regime of their parents.

Today's report found the local banking sector was well-capitalised, and had maintained a high level of stable funding to meet the central bank's core funding ratio requirement.

Overseas funding for banks was still seen as a risk to the financial system, though New Zealand lenders' demand for that type of funding had reduced over the past three years due to moderate credit growth and high domestic savings. The reduced reliance on international debt also meant a sharp drop in the New Zealand dollar would be minimal.

Local lenders' net margins were stable, and profitability had improved, though that was seen as being due to the strong local economy rather than a lack of competition.

Non-performing loans declined to 0.9 percent of total lending as at June 30, down from a peak of 2.1 percent in early 2011, and provisioning was at a level close to the mid-2000s. The Reserve Bank expected banks would struggle to improve profitability any further by improving non-performing loans.

Bank lending grew 4.5 percent in the year to September, about the same pace of growth earlier in the year, with consumer credit up 8.3 percent. Agricultural lending was only up 3 percent, led by a 5.8 percent increase in dairy lending, which accounts for almost two-thirds of the sector.

The bank today cited a lower forecast dairy payout as a growing threat to the wider financial system.

(BusinessDesk)