RBA Minutes, More of the Same

The RBA released the minutes from their last meeting.  Once again low wage growth, and household debt figured in the discussion, as did a focus on financial stability and the role of prudential supervision.

Members discussed how financial stability considerations bear on monetary policy decisions, reviewing both the academic literature and policy experience in a number of countries, including Sweden and the United States.

The Bank has responsibility for promoting financial stability within its flexible medium-term inflation targeting framework. Over recent times, with interest rates at low levels, the Board has set monetary policy to support the economy in its transition following the mining investment boom, while also paying close attention to trends in household borrowing and related financial stability considerations. Members discussed the effect of monetary policy decisions on financial stability and on future inflation, employment and output. They also discussed the role that prudential supervision can play in promoting financial stability. In view of this, members acknowledged the importance of a strong relationship between the Bank and other regulators, particularly APRA. They observed that the current positive culture of cooperation across the relevant agencies in Australia has been of considerable value to good policy outcomes in recent years and it is therefore important that it be maintained. The strong relationship among regulators is facilitated by the Council of Financial Regulators, which is the coordinating body for the main financial regulatory agencies to promote the stability of the Australian financial system, as well as contribute to the efficiency and effectiveness of financial regulation.

Turning to the immediate decision regarding the level of the cash rate, members noted that the broad-based pick-up in the world economy was continuing. Labour markets had tightened further in many countries and this was expected to lead to a pick-up in wages and prices over time. Headline inflation rates in most countries had moved higher over the past year, partly reflecting higher commodity prices. Nonetheless, core inflation had remained low.

Domestically, members’ assessment was that the transition to lower levels of mining investment following the mining investment boom was almost complete. Surveyed business conditions had improved and business investment had picked up in those parts of the economy not directly affected by the decline in mining investment. Although year-ended GDP growth was expected to have slowed in the March quarter, reflecting the quarter-to-quarter variation in the figures, members noted that economic growth was still expected to increase gradually over the next couple of years to a little above 3 per cent per annum.

Members noted that, although employment growth had been stronger in recent months, growth in total hours worked had declined. Nevertheless, the various forward-looking indicators pointed to continued growth in employment over the period ahead and a gradual erosion of the spare capacity in the labour market. Wage growth had remained low and this was likely to remain the case for some time yet. However, wage growth and inflation were expected to increase gradually as the economy strengthened. Members observed that low growth in incomes, along with high levels of household debt, appeared to have been restraining growth in household consumption.

The economic outlook continued to be supported by the low level of interest rates. The depreciation of the exchange rate since 2013 had also assisted the economy in its transition following the mining investment boom. An appreciating exchange rate would complicate this adjustment.

Conditions in the housing market had continued to vary considerably around the country. Housing prices had been rising briskly in some markets, although there had been some signs that price pressures were starting to ease. In the eastern capital cities, a considerable additional supply of apartments is scheduled to come on stream over the next couple of years. Growth in housing debt had outpaced the slow growth in household incomes. APRA’s recent prudential supervision measures should help address the risks associated with high and rising levels of indebtedness. In response to those measures, increases in mortgage rates, particularly for investors and interest-only loans, had been announced, but were yet to have their full effect.

The Board continued to judge that developments in the labour and housing markets warranted careful monitoring. Taking into account all the available information, including that year-ended growth in output was expected to have slowed in the March quarter, the Board judged that holding the accommodative stance of monetary policy unchanged at this meeting would be consistent with sustainable growth in the economy and achieving the inflation target over time.

Majors Loosing Relative Mortgage Share: AFG

Australians are testing the competitiveness of the lending market with  AFG showing the non-major lenders picking up nearly 35% of the market, according to the latest AFG Competition Index. This of course is myopic, in so far as it looks at traffic though the aggregator. But it does confirm that some majors are intentionally slowing business via their third party channels. This phenomenon is one we already discussed on the DFA Blog.

AFG General Manager of Sales and Operations, Mark Hewitt said the data reaffirms the value the mortgage broking channel delivers. “Mortgage brokers deliver true competition in the lending sector and provide real choice for consumers. If a lender is out of the market on service or price they will look beyond the majors to meet the needs of their client.

“Today’s figures show CBA continues to slide with their overall market share down from 20.5% this time last year to 11.8% last month.

“With CBA, AFG believes this is the result of a deliberate strategy to pull back from the investor and interest only markets to meet the lending caps mandated by APRA,” said Mr Hewitt.

“When combined with their subsidiary Bankwest, CBA has dropped their total market share from 25.5% to 15.5% in the same period.

Amongst the other majors, NAB is continuing to win market share.

“NAB have benefited from their recent actions to align their broker products with their direct channels,” he said. “Until recently there was a difference between the products made available to their direct and broker introduced customers which created confusion for borrowers.”

“Westpac has taken the lion’s share of the fixed rate market for the majors, doubling their share from 10.98% this time last year to finish May 2017 with 22% of fixed rate mortgages.

“Westpac subsidiary St George is also picking up market share of those seeking to refinance.

AFG has 39 home loan lenders on its panel and flows of business to the non-majors are significantly higher through brokers than in the broader lending market. Last month 34.95% of all mortgages lodged by AFG brokers went to the non-majors. This is in stark comparison to the 17% market share of the non-majors outside of our channel.

“Suncorp is the big winner for the non-majors, picking up market share in the fixed rate, investor and refinancing categories.

“Increased competition delivers value to the consumer. Many of the non-major lenders on our panel do not have a branch network. Without the competitive tension mortgage brokers bring to the market, prices would inevitably rise,” he concluded.

Interest-only rates surge across the board

From Mortgage Professional Australia.

Basic variable rates jump by almost 30 basis points as increasing number of borrowers go for fixed rate loans

Interest rates increased on 25 interest-only variable rate loans in the month of May alone, new data by comparison site Canstar has revealed.

Looking at investor IO loans, Canstar found the average basic variable rate IO loan had increased by 29 basis points and standard variable rates by 16 basis points. Just four IO products saw a rate reduction in the same period.

The rate rises are closely connected to a decision by APRA to cut down interest-only lending. In March the regulator warned lenders to limit new IO lending to 30% of their total residential mortgage lending, in addition to reducing IO lending at LVRs above 80%.

Interest-only lending may not be the only sector to see regulatory interference this year. In his letter to the banks, chairman Wayne Byres warned that “APRA continues to monitor the prevalence of higher-risk mortgage lending more generally. This includes lending at high loan-to-income ratios, lending at high LVRs, and lending at very long terms or with long interest-only periods (e.g. beyond five years).”

Fixing rates

The news comes on the same day that MyState Bank published a survey showing an increasing demand for fixed rate loans.

61% of broker surveyed had seen a growing number of customers moving to partially for fully-fix their interest rate, fearing rising rates. A quarter of brokers said more than half of their clients had done so.

MyState group executive broker distribution, Huw Bough observed that the “survey findings indicate that home owners are growing wary about the ability of banks to keep rates at their current levels in the short to medium term, despite a historically low official cash rate of 1.5%.”

Australia has not had a rate rise since 2010, although the decision by the US Federal Reserve last week to raise rates has raised expectations that the RBA might do the same. However, 74% of the 30 economists and experts convened by comparison site Finder.com.au predicted the next cash rate move would not occur until 2018.

Bank Tax Now Law

The Senate Inquiry on the Bank Tax reported yesterday.  Subject to consideration of the other recommendations, the committee
recommends that the bills be passed. It was, last night.

Recommendation 1 – The committee recommends a review be conducted by the Senate Economics Legislation Committee in a minimum of two years to examine:

  • the efficacy of the policy in fulfilling its stated objectives;
  • the effect on competition in the Australian banking market; and
  • whether the levy is required in perpetuity, including the need for a further review at the time the stated objective of the levy is achieved; that is when the budget has been ‘repaired’.

Recommendation 2 – The committee recommends that Treasury closely examine issues relating to the technical aspects of the bills to determine if changes are required to avoid double taxation and/or to narrow the liability base.

Recommendation 3 – The committee recommends that Treasury provide greater explanation as to the rationale for the method of liability calculation which presently excludes foreign banks, and specifically provide an explanation as to why Macquarie Bank is subject to the levy while foreign based competitors are not.

Recommendation 4 – The committee recommends that the legislation be amended so that the Treasurer may, on the advice of APRA, suspend the application of the levy to any or all Authorised Deposit-taking Institutions in extreme financial or economic circumstances.

Recommendation 5 – Subject to consideration of the other recommendations, the committee recommends that the bills be passed.

Within the 30 page report, we found the comparative table on bank levys most interesting.


12 Banks Downgraded

Elevated household debt is behind Moody’s downgrade of 12 Australian banks today.

In Moody’s view, elevated risks within the household sector heighten the sensitivity of Australian banks’ credit profiles to an adverse shock, notwithstanding improvements in their capital and liquidity in recent years.

In Moody’s assessment, risks associated with the housing market have risen sharply in recent years. Latent risks in the housing market have been rising in recent years, because significant house price appreciation in the core housing markets of Sydney and Melbourne has led to very high and rising household indebtedness”

These include ANZ, CBA NAB and Westpac as well as Bendigo and Adelaide Bank, Heritage Bank, ME Bank, Newcastle Permanent, QT Mutual, Teachers Mutual, Victoria Teachers Mutual; and Credit Union Australia.

The four majors had their longer-term ratings cut one notch from Aa3 to Aa2 and their baseline credit assumptions trimmed from A1 to a2.

Moody’s downgraded Bendigo and Adelaide bank’s long-term rating from A3 to to A2, but Bank of Queensland and Suncorp were unchanged at A3 and A1 respectively.

ANZ confirmed the downgrade, saying

“Along with the other major banks, ANZ’s senior unsecured credit rating has been lowered by one notch from Aa2 to Aa3. Following this action, Moody’s has also restored the ratings outlook for the four major Australian banks to Stable from Negative”.

There was no change to ANZ’s short term rating which remains at P1.

The full lists of revised ANZ ratings are:
• Senior debt: downgraded from Aa2 (Negative) to Aa3 (Stable)
• Subordinated debt: downgraded from A3 to Baa1
• Hybrid debt: downgraded from Baa1 to Baa2

The ratings are predicated on the assumption that Government support will be available if needed.

These are relatively minor changes which are unlikely to impact funding costs that much, but the trajectory and underlying rationale are much more significant.


AMP Bank raises investor rates

From Australian Broker.

AMP has announced changes to investor lending to manage its portfolio responsibly and align with regulatory requirements.

The pricing and policy changes for investment property loans, include:

  • Variable interest rates for new and existing investment property loans will increase by 35 basis points
  • For all new investor property loans, the maximum loan-to-value ratio (LVR) is reducing to 50%. This change applies to all new loans with an investment property as security and includes loans to SMSFs

The changes to interest rates are effective 23 June 2017 for new customers and from 26 June 2017 for existing customers. LVR change is from 21 June for new investment property loans and 1 July for SMSF investor loans.

Sally Bruce, Group Executive AMP Bank commented: “These measures are needed to ensure we operate within our regulatory obligations.

“We’re committed to managing our portfolio responsibly while balancing this with the interests of our customers.

“We are managing our loan book in a very active market and these changes follow recent shifts in competitor activity.  We will continue to take the necessary steps for sound management of our regulatory requirements,” she said.

How the bank levy could end up hitting brokers

From Mortgage Professional Australia.

As Australia’s government indulges in another round of bank bashing, brokers could get caught in the crossfire, writes MPA editor Sam Richardson

At 10AM the ASX opened and the bank stocks began to plummet. ANZ, CBA, NAB and Westpac were hit, as well as Macquarie: nearly $14bn was wiped from their share prices in total. This would all have made sense on 10 May, the day after the government unveiled a new 6 basis point bank levy, but the price collapse occurred on 9 May, nine and a half hours before the budget was unveiled.

Evidently someone knew the bank levy was coming, if not the banks themselves.

“This new tax is not a well-thought-out policy response to a public interest issue,” commented Australian = Bankers’ Association CEO Anna Bligh. “It is a political tax grab to cover a budget black hole.”

Although it is equivalent to just 0.06% of a bank’s liabilities, and affects only the big banks and Macquarie, the levy is expected to bring in $6.2bn over four years. The government says the levy will apply from 1 July, although it is less clear when it will end, or how the banks will pay for it.

Raising rates isn’t an option, according to Treasurer Scott Morrison. “Don’t do it,” he told banks the day after the budget. “Don’t confirm their worst impressions. Tell them another story. Tell them you will pony up and help fix the budget.”

Rate rises and competition
Australia’s banks don’t appear to agree. Commonwealth Bank CEO Ian Narev has already warned that “higher costs are either passed on to customers through reduced service levels or higher pricing, or to shareholders through lower returns. There is no middle option to absorb costs.” While not explicitly stating they’ll raise rates, the other banks have made similar points to Narev’s.

Major bank borrowers’ interest rates could rise by 20 basis points, analysts from investment bank Morgan Stanley have predicted.

Martin North, principal of research firm Digital Finance Analytics, made a similar claim when speaking to MPA. “Because the mortgage book is half of the total book you assume there would be a 15–20 basis points hike in mortgage rates, if they put it all through.”

Although the levy will only affect the big five, refinancing your customers with the nonmajors may not be the best option, North warns. “If the big four reprice their mortgages I’m pretty sure the regionals will follow anyway, because they need to do margin repair on their books.”

Adelaide and Bendigo Bank CEO Mike Hurst and others in the non-major sector have welcomed the levy as a way to even the competitive playing field. Deloitte told MPA that concerns about competitors could dissuade the banks from making aggressive rate hikes. However, North says the non-majors still face a “significant competitive disadvantage” because of higher capital requirements.

Foreign-owned banks could be the main beneficiaries of the budget, according to the major banks. ING DIRECT and HSBC have the ability to raise funds from overseas while being exempt from the levy due to their small presence in Australia. Foreign-owned banks start from a low base, however: ING’s share of AFG’s lending was just 3.51% in February, while HSBC only resumed dealing with brokers in June.

“If the big four reprice their mortgages I’m pretty sure the regionals will follow” – Martin North, Digital Finance Analytics

Unscrambling the egg
Standing between major bank borrowers and higher rates is the ACCC. Morrison has tasked the ACCC with forcing the banks to explain future rate changes and ensure they don’t use rate hikes to pass on the levy.

Unfortunately for the Treasurer, explaining rate hikes is “like trying to unscramble an egg”, says DFA boss  North. “I think it would be impossible to identify which elements of funding, or the levy, would be responsible for moving prices up or down. There’s a whole host of reasons why, outside the levy, prices will continue to rise,” he explains. International funding is still expensive; the banks are still hindered by overly cheap loans from last year; APRA is forcing them to reduce interest-only lending, and, finally, capital requirements continue to increase. At the end of the year APRA will publish a paper which North expects to recommend raising rates and consequently rates on mortgages.

Therefore, says North, “we have not seen the end of the mortgage rate hikes”.

“There is no middle option to absorb costs” Ian Narev, Commonwealth Bank

Impact on brokers
The government’s bank bashing could end up hitting brokers.

“This levy comes at a time when bank earnings and profitability are already facing multiple headwinds,” warned credit ratings agency Moody’s, pointing to moderate credit growth, low interest rates and rising capital requirements. Coupled with further scrutiny of vertical integration by the Productivity Commission later this year, the banks have the incentive to take radical action.

Banks could save billions of dollars by cutting broker commissions, according to UBS. The investment bank claims that the cost of brokers is rising and accounted for 23% of the cost base of the major banks’ personal/consumer divisions in 2015.

Analysts Jonathan Mott and Rachel Bentvelzen wrote: “We estimate mortgage broker commissions add 16bp per annum to the cost of every mortgage in Australia, irrespective of whether the mortgage was broker or proprietary originated.”

Following the ASIC and Sedgwick reviews the banks will start to lower commission rates over the next few months, the analysts have predicted. “While mortgage brokers are unlikely to be happy with this outcome, we believe there is little they can do,” they said. Competition between banks would keep interest rates low, however, and “offset the additional repricing expected by the banks as they adopt the new Bank Levy”.

Sedgwick’s review gave the banks until 2020 to enact its recommendations, without explicitly recommending cuts to commissions. The consultation period for responses to ASIC’s review closed in June, making it unclear how banks would radically change commissions in time for the implementation of the levy on 1 July.

Whatever the outcome, the budget has created a $6.2bn reason for Australia’s banks to start making changes.

We are not a major bank: Macquarie

From Australian Broker.

Macquarie has decried its inclusion in the government’s bank levy, in a statement stressing its minor market share and low ranking in Australia’s banking ecosystem.

The comments come from the group’s submission to the Senate Economics Legislation Committee which held a hearing with the Australian Bankers’ Association (ABA), the big four banks, Macquarie, ME, Bendigo and Adelaide Bank and the Customer Owned Banking Association (COBA) on Friday (16 June).

The levy will have a “disproportionate impact” on Macquarie Bank, chief financial officer Patrick Upfold wrote in the submission paper.

“Macquarie Bank is not a ‘major bank’,” he said. “Macquarie Bank is predominantly a wholesale business and exporter of financial services.”

While the purpose of the levy has allegedly been to provide a more even playing field in a market where the five affected banks represent 80% of all credit provided, Upfold said that by itself Macquarie held less than 2% of total lending and advances in Australia.

“Putting this into perspective, Macquarie Bank’s Australian mortgage business is not the fifth largest in Australia but eighth, ranking behind ING, Suncorp and Bendigo Bank and just ahead of Bank of Queensland.”

The levy will increase the effective tax rate on the bank from 34% to 41% which was well above the 30% company tax rate, Upfold said.

“We remain surprised the Major Bank Levy applies to Macquarie Bank given our size, the benefit we bring to competition in the domestic retail market and the role we play in bringing export income into the Australian economy.”

Macquarie also suggested a number of changes to the levy including increasing the threshold level for banks to be eligible.

“The levy threshold has been set high enough to exclude regional banks whose domestic presence is larger than Macquarie Bank’s but low enough to ensure Macquarie Bank’s inclusion,” Upfold said.

“To achieve the stated objective of improving competition in the domestic retail market and to ensure Macquarie’s continued success in exporting financial services globally, the threshold should be raised to exclude Macquarie Bank.”

Australia is facing an interest rates dilemma

From The Conversation.

This week the US Federal Reserve, as expected, raised its benchmark interest rate by 25 basis points, to a range of 1-1.25%. This was the third such hike in the last six months.

Fed Chair Janet Yellen said:

Our decision reflects the progress the economy has made and is expected to make.

Yet not everyone was so jazzed about the decision. In a terrific piece former US Treasury Secretary Larry Summers articulated “5 reasons why the Fed may be making a mistake”.

And whether the Fed view or the Summers view is the better one has tremendously important implications for what the Reserve Bank should do here in Australia.

The nub of Summers’s concern revolves around the implicit model of the economy that the Fed is using – and whether it still works in the economic world in which we find ourselves.

The general worry with keeping rates too low, for too long, is that inflation will take off. In the past, policymakers have worried – with good reason – that waiting to raise rates until inflation starts rising much is dangerous because it can get out of control.

If one is not going to wait to see what happens to inflation, then one needs a way to predict the path of it. The traditional approach that policymakers have taken is to look at the relationship between unemployment and inflation – the so-called Phillips Curve – and predict future inflation based on unemployment.

Summers prefers what he calls the “shoot only when you see the whites of the eyes of inflation” paradigm. This – as the imagery suggests – involves waiting until the last possible point before raising rates. In other words, be really sure that the inflation is happening.

This makes sense if the old model is broken, and Summers makes a persuasive case that it is.

First, he points out that the Phillips Curve (the allegedly stable relationship) may not even exist. And even if it did, scholars have pointed out that it would be very hard to estimate statistically the Goldilocks point where unemployment is such that the rate of inflation is stable (the so-called Non-Accelerating Inflation Rate of Unemployment or NAIRU).

Second, Summers offers a different model of the world – at least in part. That model is one where advanced economies – like the US and Australia – are suffering from “secular stagnation”.

According to Summers, the implication for monetary policy of this are as follows:

there is good reason to believe that a given level of rates is much less expansionary than it used to be given the structural forces operating to raise saving propensities and reduce investment propensities.

I am not sure that a 2 percent funds rate is especially expansionary in the current environment.

Moreover, he sees asymmetric risk with getting it wrong, going on to say:

And I am confident that if the Fed errs and tips the economy into recession the consequences will be very serious given that the zero lower bound on interest rates or perhaps a slightly negative rate will not allow the normal countercyclical response.

Maybe the combination of a fire hose of global savings chasing too few productive investment opportunities has changed what level of interest rate can provide a serious boost to economic activity.

Which bring us to Australia. We, too, have relatively low unemployment by historical standards (the ABS just announced a drop in May to 5.5%), yet wage growth is remarkably low. Those two things happening together suggests that our old understanding of the labour market is off the mark. That low wage growth is a major driver of the low inflation we are also experiencing.

If Summers is right, and there isn’t some big point of difference between Australia and the US in this regard, then the unmistakable implication is that the RBA should probably cut rates – perhaps twice – later this year.

But there is that whole housing price thing in Australia. A rate cut could fuel further price rises which, as bad as that is for affordability, is also deeply problematic for financial stability.

Yet, if the Australian economy really does need a rate cut, and governor Philip Lowe holds steady because of housing price fears, then that could trigger a further slowing of GDP growth, put wages under even more pressure, and trigger a recession itself. And that would be bad news for financial stability, too.

Let’s see how the RBA handles that Gordian Knot.

ASIC and AFP investigating bank levy leak

From Investor Daily.

The corporate regulator is working with the Australian Federal Police on an investigation into “suspicious trading” of major bank shares ahead of the announcement of the new bank levy in May’s federal budget.

ASIC officials confirmed to the Senate joint committee members on Friday that the regulator is conducting an inquiry into “suspicious trading” in conjunction with an AFP investigation into the leak of the bank levy prior to the release of the budget on 9 May.

In response to a question from Labor Senator and committee deputy chair Deborah O’Neill, ASIC commissioner Cathie Armour said the regulator is looking at trading in days before the release of the federal budget.

“As you can imagine, there is a high volume of activity in those stocks so it’s not a straightforward exercise,” Ms Armour said.

“We are working together with the AFP and considering whether there was any information that was inappropriately shared with third parties before the announcement.”

However, while ASIC is “making inquiries”, there is no formal investigation underway as yet, according to ASIC senior executive leader for markets enforcement Sharon Concisom.

Ms Concisom said the ASIC investigation has included interviews, but has not resulted in the issuance of Section 19 notices, which compel people to co-operate with ASIC.

Such notices would require a formal investigation, which is not yet underway, she said.

ASIC chairman Greg Medcraft said it was important that the general public understood the regulator is looking into the matter seriously.

Mr Medcraft encouraged people with knowledge of the leaks to volunteer the information to the regulator.

“Come to us before we come to you,” warned Mr Medcraft.