Bollard out to stop 'worrying' dairy loans

Reserve Bank Governor Alan Bollard. Photo / Mark Mitchell

Reserve Bank Governor Alan Bollard has hotly defended plans to increase the amount of capital banks have to hold against their farm lending, saying it is important to prevent a repeat of the "worrying" surge in lending to the dairy sector on the eve of the global financial crisis.

Since the start of the millennium the amount farmers owe their bankers has nearly quadrupled, and relative to agricultural output nearly trebled.

At the release of the bank's six-monthly financial stability report yesterday, Bollard said that even when the sub-prime crisis was starting to emerge but dairy prices were still high, New Zealand banks had gone on a "big lending push in the dairy sector, to a level that could have been worrying if dairy prices had not picked up again" after their plunge when the global financial crisis hit.

"That is a learning that we have to take on board for the New Zealand economy. We don't want to see that happening again."

Under the Basel II international bank regulation regime, now in the process of being toughened up, banks had been able to reduce the risk-weighting of the agricultural loans on their books, and therefore the amount of capital they need to hold to cover them, from 100 per cent previously to around 50 per cent.

The Reserve Bank plans to raise the weighting again to the 80 to 90 per cent range.

"It should be no surprise to the banking sector, or to farmers, including those who potentially got themselves overexposed just before the crisis. Memories should last a little longer than that," Bollard said.

"I'm sorry if I sound over-excited about that."

Over the past year rising incomes from a recovery in export prices have been used by many farmers to cut debt.

The drop in the dairy payout in the 2008/09 season, from the previous season's record level, had underscored the volatility of commodity prices.

"While the final payout for the current season is expected to be a new record, the recent experience of volatility means that increased income is likely to be used to consolidate financial positions rather than being capitalised into land prices," the bank said. It noted that farm sales are depressed and land prices had fallen.

"Banks appear to be restructuring loan terms and working with farmers rather than pushing large numbers of operators into forced sales, despite an increased rate of non-performing loans. Most agricultural debt is held by the dairy sector, where the excellent returns expected this season should help improve balance sheets and stabilise land prices," the financial stability report said.

"However, the return on assets in the farming sector is still fairly low, and it is not clear if land prices will have to fall further to attract buyers."

Bollard said it was wise for farmers to have been using very good commodity prices to reduce debt.

"We think we see some signs of them starting to spend some more now, having done their initial debt reduction but some of that will continue. As they start to spend more, initially on farm inputs, it starts to trickle through the economy," he said.

Federated Farmers economist Philip York said the report was in line with the body's view that improved commodity prices would not rapidly translate into economic activity.