Christian Hawkesby:
So good afternoon. Welcome, welcome and thank you for joining this media briefing. I'm Christian Hawkesby, the deputy governor of the Reserve Bank and General Manager for Financial Stability, and today we're here to talk about this document, our May Financial Stability Report, which outlines our assessment of the resilience of the financial system and our strategy and priorities in the face of that assessment. And I'm joined on stage by some familiar faces to you all now, Chris McDonald, Manager of System Monitoring and Analysis, Kate Le Quesne, Director of Prudential Policy, and the Governor, Adrian Orr.
And we are pleased to share with you our assessment that New Zealand's financial system remains strong and as it continues to adjust to the higher interest rate environment. Most mortgage holders have now repriced to higher mortgage interest rates as expected and growing nominal incomes have assisted with that adjustment. However, we do acknowledge that some are doing it tough and having to reduce their spending and adjust their payment timetables to make ends meet. And this is occurring in an environment of heightened job insecurity as highlighted by the labour market data this morning.
Some businesses are also doing it tough. However, while non-performing business loans have risen, they've done so from still low base and near-term risk to the agricultural sector have eased since our November report with the recent rise that we've seen in dairy prices. And other good news, global inflation is declining. However, from a financial stability perspective, there remains a risk that new or persistent inflation pressures could result in global interest rates remaining higher for longer, placing continued pressure on households, businesses, and the financial system.
Supported by strong capital and liquidity positions, our assessment is that New Zealand's financial system remains well-placed to handle a range of different severe scenarios as outlined in the report. Before opening up to questions, I just wanted to draw three parts of the report to your attention. Firstly, the progress that is occurring modernising our frameworks and you'll see that over the coming months in the form of consultations, on standards under the Deposit-Taker Act, which precedes the introduction of the deposit compensation scheme next year.
Secondly, the special topic in the document about the work we're doing with industry, other regulators, and government agencies to build cyber resilience in New Zealand's financial system. And then finally, the special topic that we released earlier in the week outlining the trend towards more risk-based pricing of property insurance and the call to action within that special topic to policyholders, to insurers, to banks, and to local and central government, and to ourselves to continue building awareness, encouraging data sharing, and working with industry on best practise.
So happy to open it up for questions on the report. Just a quick reminder that the governor and a number of my MPC colleagues will be back in a couple of weeks to discuss the monetary policy statement. If you just direct questions in the first instance to myself, I can share them across the team as appropriate. So open for business.
Jenée Tibshraeny:
Jenée Tibshraeny from the Herald. A few questions firstly on insurance. If insurers did start unbundling products, so have a carve out for example, that says if you're in a flood risk area, you cannot get flood cover, for example. Do you see that happening and how would that bode with the comments you're making about banks keeping greater tabs on the insurability of properties that they lend against?
Christian Hawkesby:
Yeah, so yeah, thanks for the question and thanks for raising the special topic, which is a central part of our document. What it really is trying to highlight are these trends that we see into the future. So this trend for more risk-based pricing insurance and a potential trend that we see internationally of potentially unbundling risks and enabling those to be priced better. Our key message is really just to understand that this is happening for policyholders to get more information about why it is that their insurance is priced the way it is, what choices they have, what information that they can source to better understand the risk, to better improve the risk position so that they do get better pricing. For insurers to be more transparent about the way that they're doing that. And for banks to have better data so that they're tracking whether a property is insured, not just at the time that the loan is undertaken, but through the life of the loan.
So unbundling of risks is going to be part of that overall story and that's something that lenders are going to have to understand in terms of the loans that they're providing to those property owners, the value of the collateral and what different risks are in play through the life of the loan.
Jenée Tibshraeny:
I mean that whole situation would get quite complicated, presumably. Do you see a time in the foreseeable future where a bank goes, okay, your interest rate is going to be a bit higher because you can't get adequate flood cover? And then you guys go, right, you need to hold more capital because of that risk. That sort of calculation will probably get quite confusing.
Christian Hawkesby:
Our overall message is that risk-based pricing is potentially a positive development for financial stability in the long run in the sense that if risks can be identified, if they can be priced well, and allocated and managed to those best placed to manage them, that puts the financial system on a footing that when risks do occur, they're borne by the entity that's best placed to take that risk.
The price signals that can come from risk-based pricing can be powerful in the sense of if there are risky areas of land to develop on, there should be a signal there pushing away that activity into less risky areas. So those price signals are going to become really important for decision making.
Jenée Tibshraeny:
Just finally, do you want to see banks use pricing more in this space? Insurers are doing it with their risk-based pricing. Do you think there's room for banks to do that more when it comes to insurability, if you know what I mean? So charge you a higher interest rate if you have a property that is struggling to get insurance?
Christian Hawkesby:
I think the message in the document is that the first step is a information gathering step. At the moment we believe that banks have good information about the insurance cover at the beginning of the loan. They potentially don't have good information right through the life of the loan so that there's a first step there of gathering better information so that they can understand the risks, price the risks, and then through and to manage the risks going forward and that may incorporate some element of pricing.
Dan Brunskill:
Hi, Dan Brunskill from interest.co nz. Just noting today unemployment data came out a little bit stronger than the Reserve Bank had forecast. You talked a little bit in your Stability Report about how that's one of the risks that could lead to mortgage arrears going up. I was just wondering whether that data point changes anything in the analysis here and how we should be thinking about what you expect to happen in employment and the economy and the threat to stability that could come if it worsens more than expected?
Christian Hawkesby:
So we'll be back in a few... I mean the data's just come out this morning. It's very fresh. We'll be back in a couple of weeks with a monetary policy statement where we will be going to great lengths to outline our views about the labour market. The key message for us today is that it's a confirmation of a trend that we were expecting to see in the sense of with higher interest rates, there is going to be a balancing, a better balancing of demand and supply cooling of the economy that involves a cooling labour market as well. And that's one of the key stories that runs through the Financial Stability Report that's going to be... We acknowledge that that is tough for some people. For the financial system as a whole, we think it's well-placed to be resilient into that scenario and more severe ones.
Dan Brunskill:
And I guess, a follow-up question on that, which is also monetary policy adjacent, but financial stability question, which is, if inflation is looking to be stickier globally as you warned, how comfortable are you? How long can rates stay high I guess before it starts to pose some sort of financial stability risk? Is there a point at which financial stability would be threatened by higher rates?
Christian Hawkesby:
Yeah, we will get onto the inflation outlook in more depth in a couple of weeks. The key point here in terms of financial stability is that high global inflation still remains a key risk for financial stability in the sense of what are the scenarios that would put households and businesses under pressure and it's a scenario where interest rates have to rise significantly from where they are and what would drive that? It would be new or persistent inflation pressures that meant that central banks weren't on a pathway back to normal, they were having to go again. That would be a very, very difficult position for many households. Very uncomfortable from a central banking point of view, the right thing to do, we are getting on top of inflation. That's our first, second, and third priority from our monetary policy mandate. It's also the best thing for us to be doing for financial stability as well.
Jenny Ruth:
Hi Jenny Ruth from Good Returns and Just the Business. On the employment numbers today, one of the commentaries pointed out that unemployment is a lagging indicator, so we've got at least another year of deterioration ahead of us. The report says that currently mortgages that are in the AREAs are about .5 percent and that they could get to 0.7. Is that upper end at risk from the outlook as we can see it from here?
Christian Hawkesby:
So those projections for provisions that you outlined there are consistent with our projections for unemployment and the labour market and the broader macroeconomic outlook. So those things are consistent. That's the central case. We have to bear in mind more severe scenarios as well. Chris, I wondered if you wanted to talk a bit about how we put together our projections for provisions, but also maybe about the stress testing that we do as well to see how resilient the system is to other scenarios.
Chris McDonald:
Yes. The point I was going to make and add there was, so the 0.7 you mentioned for non-performing loans, is still a very manageable level for banks. So it's still low compared to what we saw after the global financial crisis where I think the non-performing loan ratio for mortgages reached 1.2 percent and it is still very low compared to what banks face and the stress tests that we run. And as we've seen and talked about previously, the banks in those stress tests have proven that the resilience is there. It's actually very severe scenarios, much more severe than what we're looking at here.
Lucy:
Lucy, from Reuters. Going back to the climate change risks, are we seeing any changes in house prices given where locations are and what the impact might be say 10 or 15 years down the track? And what sort of risk is that posed to banks or the financial system going forward if we're going to see houses and areas that are under risk kind of drop?
Christian Hawkesby:
Yeah, maybe I'll ask Chris about whether we're seeing anything in the data so far. I think it's a very early discussion. It's something that we are raising awareness about because this is a development that we see moving further into the future risk-based price. Traditionally insurers have used what's called community-based insurance, which is spreading the risks right across the country. One area the country effectively subsidising another area of the country most prominently in seismic risks. Different parts of New Zealand are exposed to earthquakes differently. Now they're introducing this more in terms of flood risks and other types of risks that they are ensuring. So this is an early development we see The more that they use risk-based pricing, the more that will flow into other things in terms of insurability and prices of houses as well. I think it's very early days in terms of whether that's occurring yet, Chris?
Chris McDonald:
Yeah, I think we're still in the process of developing and learning about these things. So getting data on that is something that's still being developed over time.
Lucy:
But how quickly do we need to come ahead of this given that if you're buying a house today, a beachfront property, you might be taking out a 30-year mortgage, and in 30 years that house might not actually exist.
Christian Hawkesby:
That's one of the reasons that we are raising awareness now because these risks do come forward. You see it across financial markets, the way that equity markets and commodity markets are constantly looking into the future and bringing back those risks to a price today. That's going to start happening in terms of pricing of insurance and therefore pricing of assets that are based on the reliability of insurance for those assets. What we're encouraging is to be part of that, if you're a stakeholder and part of that to be part of the work going forward. And for property owners and policyholders, it means getting better information. It means looking at hazard maps, it means contacting the local council and understanding the hazards more in your relative area and your locality, which is going to give you some choices about what adaptation and mitigation you can start making now to reduce your risk in the future.
Jenée Tibshraeny:
Jenée from the Herald. A question about the deposit compensation scheme. This is maybe tangential to the report. I'm just wondering if you've done a financial stability risk assessment around how the scheme might change the flow of deposits. So if for example, I know that I can get my deposit insured if I put it in a finance company and get an extra couple of percent interest. I might be more inclined to do that than is currently the case, where I might just put my money in a bank. So I don't know. I suppose it might depend on how aware people are the scheme, but is there a risk there if we see a bunch of money flow to these higher risk organisations that pay more interest?
Christian Hawkesby:
So I'll hand over to Kate in a moment to talk a bit more about the deposit compensation scheme in general, but I think just a high level point, which is useful to make is that the deposit compensation scheme is coming in tandem with the Deposit Taker Act more generally and that includes the different standards, the prudential policies that these deposit takers are going to be held to such that they are part of the deposit compensation scheme. So I think that's part of the story, but Kate, do you want to expand?
Kate Le Quesne:
Yeah, so deposit compensation scheme will come in middle of next year covering up to a hundred thousand dollars per depositor per eligible institution as you highlighted. There could be a range of behaviours that occur off the back of that. I don't think we're expecting large change in terms of the deposits moving around, albeit, people will make choices. And there's a range of reasons why people make choices where they put their deposits in certain places.
In terms of say the levies that will be charged to institutions to build up the fund that would ultimately be used for any payout, there's mechanisms in there. For example, in our recent consultation on the levies related to risk-based pricing is what we have put out as our preferred approach. So the idea being higher risk entities are paying a higher proportion at levy wise, and that sort of somewhat provides some levelling there matching the risk and the pricing in terms of how that gets passed through ultimately in deposit rates potentially.
Jenée Tibshraeny:
So the differential will be smaller I think is what the paper says. Like the difference between the finance company and the bank, the interest rate they pay will shrink. But I just wonder if you've done some scenarios that you could share with us around how money might be moved around. I don't know how much of an impact that could have.
Christian Hawkesby:
Adrian, would you like to explain?
Adrian Orr:
I was just prompting my colleagues. Just a scalar, the non-bank deposit-taking scale is very small relative to the current deposit-takers. The non-bank deposit-takers will come in under our umbrella. They will have to meet prudential hurdles and standards and expectations so that these probabilities of failure are manageable and obvious to depositors on the way through. So it's about doing both at the same time. One providing the deposit compensation scheme. But at the same time trying to level the risk of these institutions small with large and make it very transparent. So that is the nature.
We've seen enormous consolidation already in the non-bank deposit-taking sector, and a lot of that is because of economies of scale, because of the future prudential challenges. The businesses aren't especially strong. So we expect to see a far more level playing field and proportionality applied to our regulation of these small financial institutions.
Christian Hawkesby:
Other questions? I think Dane?
Brendan:
Oh sorry, Brendan [inaudible 00:21:05] In the report you talk about I suppose a kind of a gentle warning of risk around house prices becoming unsustainable linked to the tax changes, to rising immigration and the fact that you're not expecting obviously building to carry on once current developments. How serious do you view that as a future risk?
Christian Hawkesby:
Yeah, I'll ask Chris to talk a bit about some of the tax changes and the government changes, but in general terms, the housing market is not a large part of the story in this Financial Stability Report. And the reason for that is that our assessment is that house prices are broadly sustainable now when we look at across the different metrics we have. That's a change in the story from when they were a long way north of sustainable level a year or two ago. So they are in that sustainable zone. That's one of the things that has motivated us under our recent consultation to ease our loan to value restrictions towards more neutral settings in conjunction with the introduction of debt to income restriction. And we see some of the influences on the housing market being largely balanced at the moment in terms of higher immigration and less building weighed against the fact that interest rates remain high. But Chris, do you want to talk about some of the other implications of some of the other changes?
Chris McDonald:
Yeah, so the thing I wanted to start on here is just referring back to our MPS projections for house prices, which basically if house prices increasing in line with income growth over the next couple of years. So pretty subdued and in sense, and that is kind of our central projection. Now there's always going to be risks around that. And so in this report we've highlighted there's a few things that are developing which suggest there could be a bit more pressure on the housing market as well. We've talked about there's the investor tax policy changes which have potentially some impact. We've seen investors be pretty subdued in the market, their activity over the last two or three years. So you could see a little bit more of that activity. And also you mentioned migration, particularly in a situation where new build activity is actually slowing as well. So those two are kind of couple of things there which suggest we're identifying there is that potential that you could see a bit more activity and it's something we're watching.
Dan Brunskill:
Hi Dan, from interest again, I just wondered if you could reflect, you said at the beginning of the report that if anything financial stability has held up better than expected considering the high interest rates and the fast change. I wonder if you could reflect a little bit on why you think that is, that perhaps the economy is actually more resilient than you expected. Any thoughts around why that is?
Christian Hawkesby:
I guess it's a similar story that we've been saying on the monetary policy front as well, that we've been in this environment where inflation's been high and we've had to have interest rates at restrictive levels to bring this better matching of demand and supply. And that's a process that's been running through 18 months, two years now. And that's been playing out broadly as anticipated. We're seeing the things that you would expect to see in terms of the parts of the economy slowing down and that feeding its way through into financial stability or the metrics that we look at from a financial stability perspective. So the fact that the economy's been playing out broadly as expected means the implications for the financial system have been broadly as expected as well.
Probably been two bits of good news or mitigating news to that. One is that on the business side, the rise in dairy prices has taken some pressure off the dairy industry. And when you look at the projections that the banks have had in place for what their provisions are going to look like into the future, that is one that has come down over the last six months, largely because of the rise in dairy prices. Understand that some other parts of the agricultural sector are still feeling it. Sheep and beef are feeling it for very specific reasons, but I think that the dairy industry makes up a much larger exposure for the financial system.
I think the other fact has been, we've gone, this has been a very well telegraphed slowdown in the economy and the banks are in a good position. They've got strong capital. They're in a position to really support the customers and look forward and help them through the period ahead. And the likes of the NZBA have been very vocal, encouraging that to happen. And I think some of that happening, the strength of our financial system going into it has supported the way that households have been able to navigate through it as well, which has been positive.
Jenée Tibshraeny:
Jenée from the Herald. Just going back to the deposit takers scheme, I'll just ask the question in a different way. Why do you think a bunch of people wouldn't take their money out of their bank, whether earning 6% and put it in a higher risk finance company, albeit heavily regulated where they can get 7% interest?
Christian Hawkesby:
There's a lot of... We're not here to talk about people's choices or give financial advice, but there will be a whole lot of factors that influence people's financial choices. We are encouraging of a financial system that provides choice, that provides innovation, that people can shift their money around. We've talked about that in the context of the Commerce Commission Report in terms of what they're looking at with the retail banking sector. So some of that will happen. Different people will have different rationales and motivations. There'll be, and even if they're worried about the stability of a financial institution, I think even if there's a deposit compensation scheme, there is going to be some reticence about moving funds around and being involved in something. Even if you're going to get your money back, it might take time, there might be some hassle. There are all of those different factors that are going to motivate decisions. Anything?
Adrian Orr:
Just directly underlying that? I mean you're right, there is a moral hazard risk when you provide a blanket dollar coverage. And this has been one of the reasons why New Zealand has been one of the last countries on planet Earth to put one of these in and why it was chosen at a particular nominal level, what's sufficient to cover the vast bulk but not provide full certainty. And so that's an art, not a science.
The ability for new institutions to come in at a higher risk and win deposits because of this depositor protection compensation is extremely low because they're going to have to come in as newer insurance, like a fully regulated deposit-taking institution. So we will be giving birth to more solid institutions rather than breathing life and ongoing life and to those who can't make the cut. And I think that's the important part.
The number one fear across the industry at the moment is the reverse to what we're talking about here. It's more about I might not make it into that club of deposit takers because I might have to pick up my game or my weaknesses may be properly exposed. So the moral hazard is something we have to think of, but at the same time we are shifting the deposit taking institutions into a far more robust prudential environment.
Kate Le Quesne:
That's right. And I think to your earlier question, it's very difficult ex ante to predict precisely how people will behave because there's going to be a range of factors that go into people's choices. We'll monitor carefully what's occurring. If we see something occurring that we think poses risks to financial stability, then we certainly will consider what action is appropriate.
Adrian Orr:
And the last point, it's really making it explicit what the government guarantee is and isn't. At the moment, it's explicit that there is none. It's implicit that there will be some. This is the funny world that we've been stuck in between. "You can't let me fail even though..." So this is about getting real, about saying we are going to let cash continue to flow in the economy, but we're not going to see you full. And if you want to take deposits, you need to step up to the standards that society expects.
Jenny Ruth:
There's a lot of talk about immigration and the impact both positive and negative, but we've also got a record number of New Zealanders leaving. Does that pose any risks to financial stability?
Christian Hawkesby:
I think we would say... I mean maybe Chris you want to talk a bit more about net migration and the components of it, but at a high level it's part of that story about the supply and demand and balances that run through the economy. And what we've learnt on the net migration front is that fix the economy in different ways. Fix the labour market. The high net inward migration we've had has taken pressure off the labour market. Conversely, it's put pressure on the housing market and the rental market. So it does work its way through differently. Chris, anything to...
Chris McDonald:
Yeah, so when we're looking at things like drivers of demand for rental market for house prices, we're looking at the aggregate of both the inflow of people from overseas into New Zealand and we're looking at the amount of departures of New Zealanders. So we combine the two when we're thinking about it because it's the combination that drives population growth.
Jenny Ruth:
Sorry, doesn't the composition matter though?
Chris McDonald:
To some degree, yes. And there has been some research we've done over the years on that. I would say it's primarily the aggregate is your best first indicator, but then around that you get slightly different impacts depending on the composition.
Christian Hawkesby:
Yeah. And I think things on that front would have to be extreme to make it a financial stability issue. It is more primarily one about one for monetary policy...
Jenny Ruth:
It is extreme. It's on the record, it's extreme.
Christian Hawkesby:
It's not having an extreme effect on financial stability. That's our point.
Jenée Tibshraeny:
Jenée. Again, from the Herald. Just on mortgages and people struggling at the moment to keep up with repayments, you note that people can go interest only, that's an option, and no doubt banks are trying to support people hopefully at the moment. But I'm just aware that a lot of the people, and you're aware that who are struggling might be those with larger mortgages, which might be younger people who have just recently bought houses. So a large part of their repayments are interest. So going interest only wouldn't really help. I don't know if there's anything else you think banks could be doing that they perhaps aren't doing. Presumably they do want to help people out and not force sales, but what else can be done for those people?
Adrian Orr:
Lengthening the term of the mortgage. Having... I'm trying to remember the word which isn't holiday. Having halts and mortgage payments under certain conditions, There's a lot of flexibility. What banks least want is a house back that they have to deal with. So the flexibility will be there.
Christian Hawkesby:
Yeah. And we've been encouraged by the communication from the banking industry to have those conversations and speak to those options that the governor's mentioned. And we think that that is part of how that has softened the blow of the transition that we're going through, even though it is hard still for some.
Speaker 10:
One more. Any other questions? Wrap it up.
Christian Hawkesby:
Looks like we're there. So Kia Ora Thank you very much for joining us. Thank you for your questions and we look forward to seeing you again in a couple of weeks for the monetary policy statement. Kia Ora.
