US expert blasts big four banks for ‘way low’ capital levels
The Australian 12:00am July 20, 2016
Adam Creighton
Two of the most powerful figures in global banking regulation have taken aim at the rules Australian regulators apply to the big four banks, arguing they need to be higher to protect taxpayers and withstand external shocks.
Thomas Hoenig, the vice-chairman of US bank regulator the Federal Deposit Insurance Corporation, told The Australian the capital level of Australia’s big four banks was “way low”, echoing calls for “unquestionably strong” levels made by Australia’s inquiry into the finance system led by David Murray.
While Australia’s big four banks have about $5 of shareholders’ equity for every $100 of assets, Mr Hoenig said history and logic suggested that more than $10 was appropriate to protect taxpayers from bailouts and stamp out the implicit subsidies that sustained banks’ huge profits.
Mr Hoenig and other experts and regulators are leading a charge against what Mr Hoenig calls “propaganda” from a “very powerful industry” determined to minimise its capital in order to maximise returns.
On the other side of the Atlantic, Oxford professor John Vickers, who led the British government’s inquiry into the UK financial system, noted that the minimum levels of capital under the current Basel III rules that allow large banks such as Commonwealth Bank to have liabilities worth up to 33 times the value of their equity, were “too soft”.
But as memories of the 2008 crisis fade, regulators in the US, Europe and Australia are coming under pressure from banks to relax even the Basel III capital standards in the name of boosting growth and lending.
Analysts believe the looming “Basel IV” rules to be set later in the year may be watered down to ensure weak economies across Europe are not further burdened with banks struggling to build capital levels as profitability is weak.
There are expectations that the Australian Prudential Regulation Authority will make the big four banks’ core capital ratios at least 10 per cent in coming years, up from a minimum of 8 per cent currently.
To get to this level, banks would either have to issue billions of dollars in shares or curb dividend payments.
“This goes well beyond the UK: the wider community has not been ambitious enough,” Mr Vickers told The Australian.
“It’s disappointing how little public interest there is in this question: this decision of minimum equity levels is far more important than any single monetary policy decision”.
Indeed, a lack of bank equity plunged the world into the biggest recession since the 1930s and appears to have permanently reduced global growth.
Mr Vickers, now Warden of All Souls College at Oxford University, is frustrated that the Bank of England — where he was once chief economist — has watered down his 2011 recommendations to making the British financial system more resilient.
The BoE this month revealed that banks’ “countercyclical capital buffer” would be set at zero, down from 50 basis points, reducing regulatory capital buffers by the equivalent of billions of dollars, which substantially raises banks’ lending capacity. The move was aimed at spurring on banks to lend more in a slowing economy. But Mr Vickers said more equity brought “huge social benefits” in reducing the chance and severity of banking crises.
The latest Bank of International Settlements research, published in April, concluded that banks with higher capital levels make more and better-quality loans.
Meanwhile the FDIC’s Mr Hoenig also rails against the growing complexity of bank regulation, calling the risk-weighted capital ratios that form the backbone of most regulators’ rules — including APRA’s — “garbage [and] harmful”.
Risk-weighting encourages banks to write loans in areas that regulators deem to be relatively safe, such as — before the crisis — US subprime mortgage debt and Greek government bonds.
“If you’re saying here’s what I judge risk to be into the future, then you’re on a fool’s errand; you cannot predict the future,” said Mr Hoenig, who supervises 4500 US banks and insures about $US9 trillion of deposits.
Adrian Blundell-Wignall, special adviser on finance to the OECD’s secretary-general, told The Australian that risk-weighted capital ratios were “useless” compared to the simple unweighted sort in predicting which banks failed in the crisis. “The one thing that all of the banks love is risk-weighting,” he says.
“Risk optimisation” has become a multi-billion-dollar industry, which exists to help banks game the risk weights to minimise the assets that qualify as assets for regulatory purposes. In Australia, risk-weighted assets of the big four banks have fallen from about 66 per cent to less than 43 per cent over the past decade