Banking profits 'bolster recession'

Photo / Herald on Sunday

The relatively high profits of New Zealand's Australian-owned banks may be exacerbating the scale of the recession, according to advice received by Parliament's finance and expenditure committee.

The committee has published two reports prepared by its special adviser, former Deutsche Bank economist Ulf Schoefisch, which appear to have been a key influence on the committee's own stinging report on the big banks and interest rates released last week.

In the second of the two reports which was tabled at the committee on May 27, Schoefisch observes that the fact that Australian banks are now among the most profitable in the world has been widely cited as a positive factor, "suggesting a low risk of financial instability in Australia and New Zealand".

"However, the banking sector's maintenance of relatively strong profitability may also be an indicator of undue financial pressure on households and businesses that is reinforcing the current recession."

Schoefisch suggests the committee "identify what degree of banking sector profit reduction could be seen as firmly supporting the real economy while still maintaining a sufficient profit buffer that would guarantee stability of the financial system".

Schoefisch's reports, with the Reserve Bank's Financial Stability Report, were the documents the committee drew on when preparing its own report last week. The report said the committee was surprised that despite the severe effect of the recession on businesses and households, bank profits had fallen only slightly, mainly "as a result of provisioning against future credit losses".

While banks have said their profits have taken big hits, Schoefisch refers to RBNZ data showing their after tax returns on assets and equity "reduced by only a comparatively small amount in 2008" and those returns, he said, were "comparatively high by international standards".

Last week the committee said it expected the banking sector "to take on a greater role in sharing the burden of the current recession".

"We consider that banks could further reduce interest-rate margins while maintaining an acceptable level of profitability."

Schoefisch said further tension regarding banking profits and interest margins was likely in coming years as the Government's requirement to raise substantial sums to fund fiscal deficits put pressure on market interest rates and increased banks' cost of funds.

"Monetary policy operating solely through variations in the OCR will be largely ineffective in offsetting this development, thereby increasing the focus on banks' interest margins during a period of renewed rise in retail lending rates."

FUELLING DEBATE

Finance and expenditure committee special adviser and former Deutsche Bank economist Ulf Schoefisch says:

* The big banks' profits remain high by international standards.

* These high profits may indicate pressure on households and businesses that is "reinforcing the current recession".

* Further tension between lawmakers, the public and banks is likely as monetary policy fails to offset rising market interest rates.