Reserve Bank hits back at critics, arguing its bank capital rules aren’t hurting NZ farmers and businesses

Reserve Bank Governor Adrian Orr invites banks to explain how profitability influences their strategies for agricultural and business lending. Photo / Mark Mitchell

The Reserve Bank has fired a shot at the heart of one of the main criticisms of its approach towards regulating banks.

The NZ Initiative is among those that argue the RBNZ’s “gold-plated” capital rules have created inefficiencies and seen banks pull back from servicing the rural and business sectors.

Indeed, a key aim of a parliamentary select committee inquiry into banking competition under way is to determine how these rules influence the interest rates banks charge rural borrowers.

Releasing the inquiry’s terms of reference in August, Primary Production Committee chairman and Act MP Mark Cameron commented, “Farmers trying to get ahead with a bank loan say they’re increasingly being denied access to capital or being given loans only with stringent conditions attached, and interest rates significantly higher than urban loans.

“They look at the deals being given to other types of businesses and wonder if they’re getting a fair deal.”

The RBNZ has responded, suggesting any bad deals farmers receive aren’t due to its capital rules.

In its submission to the inquiry, which it proactively released, the RBNZ said its rules only pushed up the interest rates of riskier loans a little.

It concluded they would only account for about 50 basis points of the difference between the interest rate of a rural loan versus a home loan.

So, if a bank charged a farmer 10% interest and a homeowner 6.5%, only 0.5 percentage points of the 3.5 percentage point difference could be put down to the capital rules.

The RBNZ explained banks need to make allowances for unexpected losses they may suffer due to a major shock. Its rules specify how much capital banks need to put aside to withstand this.

The RBNZ made the point that if there were no rules, banks would still assign more capital to loans subject to higher unexpected losses.

It noted the interest banks charge is also influenced by other factors, including the interest they pay to secure funding from wholesale markets or depositors, their operating costs, the allowances they leave to cover more predictable losses, and the margin they seek to add.

Similarly, ASB chief executive Vittoria Shortt, during an interview with the Herald in August, made the point that the amount of capital banks have to hold is one of a number of factors they consider when assessing loan applications.

“You have to think about: What are the cashflows of that business? And what is the volatility of those cashflows? The capital that you hold is an important consideration… but it’s one consideration.”

Shortt couldn’t be sure ASB would change its risk appetite or lending practices if the RBNZ loosened its bank capital rules.

Coming back to the RBNZ, it also made the point that because there are big differences between the interest banks charge for loans with similar risk profiles, the variance can’t be put down to the capital rules.

It noted that in June, the average small-to-medium-sized business was charged interest of 12.2%, while the average large corporate was charged 6.5%, despite the two types of borrowers having similar risk profiles under the rules.

“These illustrate that loan pricing reflects a far wider range factors than regulatory capital requirements alone,” the RBNZ said.

“We recommend that the committee invites banks to explain their internal metrics of profitability across the different business lines and how these influence their strategies for agricultural and business lending.”

The Finance and Expenditure Committee, which is leading the inquiry with the Primary Production Committee’s help, is yet to publish the submissions it has received.

Finance Minister Nicola Willis expected bank chief executives and chairs to appear in front of the committees in person for questioning.

Finance and Expenditure Committee chairman and National MP Stuart Smith told the Herald he believed someone from the banking industry (who he would not name) had tried to test how wedded he was to getting the top brass to appear.

“They indicated it might be quite difficult to get the chairs and CEOs’ calendars aligned… because they’re busy people,” Smith said.

“I said, well we’re all busy people as well, and I’d be giving them enough time, and it wouldn’t be good for their social licence if they didn’t appear.”

Dates for hearings are yet to be set.

In early-August, Willis said she was open to requiring the RBNZ to loosen its rules if a strong enough case could be made for this.

In the meantime, she will update the RBNZ’s Financial Stability Remit to emphasise the need for it to have regard for competition in its decision-making. This could push the RBNZ to tweak its capital rules.

Jenée Tibshraeny is the Herald’s Wellington business editor based in the parliamentary Press Gallery. She specialises in government and Reserve Bank policymaking, economics and banking.