Reserve Bank governor Adrian Orr says rural borrowers are facing higher lending costs despite interest rate cuts over the past year and that the regulator is gauging whether banks are bolstering their balance sheets in advance of tougher capital requirements.

After a decade or so of aggressive lending to households and the dairy sector, the banks have spent the past year "revisiting this wisdom" at a time when the official cash rate was cut to a record low 1 per cent, Orr said.

"Over the last 12 months or so, as we have been working with all stakeholders on our capital proposals, we have reduced the OCR by more than the banks' estimated costs of the higher capital requirements. Yet, for some sectors of the economy, such as agriculture, their borrowing costs have risen. This can only happen if banks are significantly raising their margins," he said.

Orr said that wasn't a sign of long-term thinking or competitive banking. He called it "pro-cyclical, fair weather, behaviour" that leads to misallocated capital, booms and busts and a greater impact on society at large.


"We are monitoring this behaviour to assess the degree of any 'front-loading' of our capital proposals, and I encourage all customers to question their banks on issues of competition," he said.

The central bank has proposed licensed lenders hold a higher degree of capital on their books as a means of reducing the risk and impact of a bank failure, while also sharpening up banks' focus on long-term customers by having more skin in the game.

Orr told a business audience in Auckland that the Reserve Bank will make its final decision in early December - previously the central bank has said November - but said the outcome will mean banks have to hold more capital of a higher quality, with any transition being at a "sensible pace."

The big four Australian owned banks have pushed back against the proposals which would set a tier 1 capital requirement equal to 16 per cent of risk-weighted assets for them and 15 per cent for all other lenders. The current requirement is for a 6 per cent minimum plus a 2.5 per cent buffer, although the banks' current equity averages about 12 per cent.

Orr also spoke on monetary policy after the monetary policy committee held the OCR steady at 1 per cent yesterday.

He said the 50 basis point cut in August was having the desired impact, with lending rates for many businesses and consumers falling and an easing in the exchange rate.

Central banks around the world are grappling with the low-inflation environment, which is leading to a lower neutral interest rate than in the past.

"The good news for New Zealand, unlike many other OECD economies, is that our government's books are in good shape, with room to expand investment, and there is already a strong fiscal impulse underway from public spending and investment," he said.


"The same can be said for corporate balance sheets in New Zealand. With relatively low levels of debt, and strong demand for goods and services, our businesses are well placed to perform."

He said the Reserve Bank is thinking about unconventional monetary policy tools, such as negative interest rates, but that it was unlikely to use them.