New Zealand is building a strong framework to respond efficiently, flexibly and swiftly in the rare event a bank should fail, the Reserve Bank's Head of Prudential Supervision Toby Fiennes said today.
In a speech to the Institute of Directors in Wellington, Mr Fiennes said the Reserve Bank had considerable safeguards in place to prevent bank crises, including supervising banks and having conservative capital and liquidity requirements.
"I want to emphasise that New Zealand banks are sound and stable and we see the risk of failure currently as very low. However, there is a need to think about how to handle potential stresses, rather like regularly checking your earthquake survival kit at home to make sure it contains everything you might need," he said.
Mr Fiennes said every financial crisis would be different and so it was vital the failure resolution emergency kit was flexible, well-equipped and effective. The Open Bank Resolution (OBR) policy is a good example of this.
"Open Bank Resolution is a tool that gives government an additional option to taxpayer bailout or liquidation. It's not the only option that will be available on the day, but its existence provides important incentives for bank shareholders and management to minimise the risk of failure."
OBR is a mechanism for reopening a bank very rapidly after a failure event. Unlike liquidation, transaction accounts are released to the bank's customers as swiftly as possible so they can carry on making and receiving payments. The first losses are borne by the bank's existing shareholders, then a portion of depositors' and unsecured creditors' accounts are frozen if required, to be released in whole or in part as resources are available. A government guarantee protects the unfrozen portion of their accounts.
While a number of countries have deposit insurance in place to protect bank depositors in a bank failure, such a scheme is not a direct alternative for OBR, Mr Fiennes said. It is not a case of choosing between OBR or deposit insurance. OBR is applicable both in a world with deposit insurance and one without.
He said that in 2011 the Government decided not to introduce a deposit insurance scheme in New Zealand because it may reduce the incentive for banks and others to manage their risk properly, is difficult to price and not always effective in preventing bank runs.
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