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20 Mar 2017

Bank Capital Levels Reviewed

The Reserve Bank of New Zealand (RBNZ) recently announced a review of bank capital requirements, with current capital standards analysed with a view to making potential improvements. This process aims to ensure a high level of confidence in the solvency of the banking system while avoiding unnecessary economic inefficiency. The RBNZ will release an issues paper in April before consulting with the banks and the public on any proposed changes to the capital framework.

The review will look at six high-level principles to ensure New Zealand meets its capital framework in light of international and domestic developments.

1. Capital must readily absorb bank losses ahead of creditors and depositors.

2. Capital requirements should be set in relation to the risk of bank exposures.

3. While there are multiple methods for determining capital requirements, outcomes should not vary substantially between methods.

4. New Zealand bank capital requirements should be conservative relative to international peers.

5. The capital framework should be practical to administer, minimise unnecessary complexity and compliance costs, and take into consideration relationships with home country regulators.

6. The capital framework should be transparent to enable effective market discipline.


According to Reserve Bank Deputy Governor Grant Spencer in a speech to the New Zealand Bankers' Association: "In the wake of the global financial crisis, banks and regulators around the world have been reviewing capital standards. It is a complex area with many aspects to consider. The review will cover the definition of capital, the measurement of risks that the banks face and the minimum capital requirements and buffer ... Detailed policy positions and options for changes to the capital framework will be outlined in consultation papers during the year. We aim to conclude the review by the first quarter of 2018."

The Reserve Bank may call for higher levels of capital to help improve the security of the financial system in the likelihood of bank failures. They will have to walk a fine line, however, with a more stringent capital regime likely to reduce the efficiency of the banking system if ratios are pushed too high or standards made too difficult to meet. While New Zealand implemented a conservative approach to bank capital after the GFC - based on the Basel III Capital Framework - rising property values and household debt levels are once again making people nervous.

"In New Zealand, our broad approach has been to adopt the Basel standards, where appropriate, and implement them with a conservative bias," said Spencer, adding "For example, the Reserve Bank has imposed restrictions on components of banks' internal risk models. However, New Zealand has chosen not to adopt some aspects of Basel III, such as the internal modelling approach for market risk, where it has felt that a policy is overly complex or inappropriate for New Zealand conditions." According to Spencer, New Zealand's relatively high risk profile and the Reserve Bank's non-interventionist approach to banking supervision are likely to be present going forward.

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