APRA capital rules ‘stifle’ lending, says COBA

The Australian 12:00am May 15, 2019

Richard Gluyas

The prudential regulator’s capital rules for home loans discriminate against small banking institutions and put them at a major competitive disadvantage, according to a report commissioned by the $116 billion customer-owned banking sector.

The Pegasus Economics report, which concludes that the Financial System Inquiry’s 2014 warning about risks to competition in the banking sector have come to fruition, comes ahead of the Australian Prudential Regulation Authority’s release of a draft revised capital framework for the industry.

Pegasus says the framework will have a “profound” impact on the level of competition in banking, particularly in the largest lending segment of residential mortgages.

Customer Owned Banking Association chief executive Michael Lawrence said yesterday that there was an acute need for a competitive and efficient home lending market.

“Following the financial services royal commission there’s a renewed focus on how regulators and government can improve competition in banking and ensure major banks are accountable without reducing financial stability,” Mr Lawrence said.

“The report shows that, due to APRA’s framework, the major banks enjoy a funding cost advantage in excess of $1000 annually on a residential mortgage of $400,000.

“The rules on risk weights mean there is too large a gap between the amount of capital that smaller banks must hold compared to the major banks.”

He said APRA should close the gap in risk weights to prevent the major banks “cream skimming” the lowest-risk home loans. By cream skimming, the major banks were leaving higher risk customers to rival lenders.

In 2015, APRA said it would raise average home-loan risk weights to 25 per cent for banks using sophisticated internal risk models, up from 16 per cent.

Pegasus says the risk weights initially rose, but two of the major banks — ANZ Bank and Commonwealth Bank — had “dramatically reduced” their risk weights on mortgages with the lowest risk of default.

“The average risk weights on such loans are now currently on average less than 6 per cent across the major banks,” it says.

The report suggests three ways to ensure that prudential regulation does not “stifle” competition in the banking system.

Competition considerations should be included in regulatory policy decisions through a statutory, secondary competition objective for APRA, and second, major banks should be required to hold more capital.

This would reduce the fragility of the financial system.

More detailed work was also required in the calculation of risk weights under the standardised approach for less sophisticated lenders.