Review of the capital adequacy framework for registered banks

Status: We are seeking feedback on proposed reforms to the amount of regulatory capital required of locally incorporated banks.

Consultation period: 2017- 2019

26 February 2019

Reserve Bank Deputy Governor Geoff Bascand presented a speech about proposals to increase bank capital.

22 February 2019

The Reserve Bank has published a simple summary of why it proposes to alter requirements for bank capital, and the impact of its proposals; along with presentation slides used for a media briefing and a bank forum.

25 January 2019

The Reserve Bank has published an updated version of the Capital Review Paper 4: How much capital is enough? (initially published on 14 December 2018), which proposes changes to regulatory capital requirements for locally incorporated banks. The Reserve Bank has also extended the submission period for the Capital Review Paper 4 proposals to Friday, 3 May 2019. The amendments to Capital Review Paper 4 reflect:

  • The change to the deadline for submissions, which has been extended from 29 March 2019 to 3 May 2019;
  • Clarification on the current capital framework’s treatment of Tier 2 capital;
  • Clarification to note that proposed restrictions on distributions apply depending on the level of the prudential capital buffer; and
  • Minor wording changes to enhance clarity or to correct typographical errors.

The Reserve Bank has released background papers relating to the review of capital:

14 December 2018

The Reserve Bank is seeking feedback on proposals to reform the amount of regulatory capital required of locally incorporated banks. The submission period ends on Friday 3 May 2019.

Non-technical summary of Capital Review Paper 4: How much capital is enough?

Bank Capital: What is it?

Banks get their money from two places – their owners (often referred to as ‘shareholders’) and people they borrow from, including depositors (often referred to as ‘creditors’). The money that banks get from their owners is referred to as ‘capital’.

Banks in New Zealand, like banks around the world, are required to have minimum levels of capital. This means that a minimum percentage of all a bank’s money must come from its owners. This minimum requirement exists to ensure that the owners of a bank have a meaningful stake in the business, because the more the owners have to lose, the more carefully they’ll manage the bank. Another reason banks are required to have minimum levels of capital is in case the bank loses money. When a bank loses money, it is the owner’s investment in the business (the bank’s capital) that is lost first, not the money the bank borrowed.

When the amount of a bank’s capital gets too low, and it can’t get any more capital, the bank is likely to fail. So the more capital a bank has, the more money it can stand to lose before going out of business. Higher levels of capital better protect depositors.

Capital requirements are the most important component of our overall regulatory arrangements. In the absence of stronger capital requirements, other rules and monitoring of bank’s activities would need to be much tougher.

The Capital Review

It is important that the Reserve Bank’s banking regulations are up to date. There is also increasing evidence that the costs of bank failures – both economic and social (well-being) costs – are higher than previously understood. This is why we’re reviewing the capital rules for banks.

The Reserve Bank has already consulted on how to measure the amount of a bank’s capital.

The question we are asking now is:

What minimum level (percent) of a bank’s money should come from its owners?

Our Proposals

Banks currently get the vast majority of their money by borrowing it (usually over 90 percent), with the rest coming from owners (usually less than 10 percent). The Reserve Bank is proposing to change this balance by requiring banks to use more of their own money. This proposal is consistent with steps taken by other banking regulators after the Global Financial Crisis.

The Reserve Bank is proposing this change to reduce the chances of banks failing in New Zealand. If banks in New Zealand fail, some of us might lose money and some of us might lose jobs. However, there would also be indirect costs on all of society that may be harder to see that would negatively impact the well-being of all New Zealanders. In the end, we would all bear the cost of bank failures, in one way or another.

This is why we want to make the chances of this happening very small – so small that a banking crisis in New Zealand shouldn’t happen more than once every two hundred years. We are also making other proposals that would help ensure banks calculate how much capital they have more accurately.

Extent of changes

The proposal would see banks’ capital levels increase materially. We are proposing to almost double the required amount of high quality capital that banks will have to hold.

In practice, actual changes to the amount that they hold will be less than double and will vary. The increase will depend on their current levels of capital, how much extra they choose to hold above the required minimum, and whether they are a large or small bank.

Generally, it will be an increase of between 20 and 60 percent. This represents about 70 percent of the banking sector’s expected profits over the five-year transition period. We expect only a minor impact on borrowing rates for customers.

Possible Impacts

If banks increase their capital, they will be more resilient to economic shocks and downturns, which will strengthen New Zealand’s banking system and economy.

What’s the downside?

Because the level of a bank’s capital can have an impact on the interest rate it charges on its loans, it is possible that higher capital requirements could make it more expensive for New Zealanders to borrow money from a bank.

While we certainly take this into account, we think this impact should be minimal.

Another potential impact is that bank owners would earn less from their investment in the bank. While we agree that this is likely to be the case, we believe this cost would be more than offset by the benefits of a safer banking system for all.

What do you think?

Whether you agree or disagree with our proposals, or would like to contribute to the discussion, we’d like to hear from you.

Please send us your thoughts by 3 May 2019 to CapitalReview@rbnz.govt.nz


30 November 2018

Notes from an address delivered to Business NZ CEO Forum in Auckland


6 July 2018

The Reserve Bank sought feedback on the calculation of risk weighted assets (‘RWA’). The components of RWA are credit risk, operational risk and market risk. Qualifying banks are permitted to use models to calculate RWA, while remaining banks use the ‘standardised approach’. Submissions closed on 19 March 2018.

On 6 July, the Reserve Bank published its response to submissions.

Submissions for publication

On 6 July 2018 the Reserve Bank published the individual responses received as part of the consultation on risk weighted assets, where consent to do so was provided by submitters.

TSB also provided a response but asked that it not be publicly released.


19 December 2017

The Reserve Bank is seeking feedback on the options for calculating risk weighted assets.

Note: the submission period has now been extended to 19 March 2018.


14 July 2017

The Reserve Bank sought feedback about what type of financial instruments should qualify as bank capital. The consultation was about the nature of financial instruments that are suitable, rather than the amount of capital that banks must hold. Submissions closed on 8 September 2017.

On 19 December, the Reserve Bank published its response to submissions.

Submissions for publication

On 7 November 2017 the Reserve Bank published the individual responses received as part of the consultation, where consent to do so was provided by submitters.

BNZ also provided a response but asked that it not be publically released.


1 May 2017

The Bank published an issues paper on the review. The paper outlines the topics that the Reserve Bank plans to consider as part of the review and the main issues it has identified within each topic.

The issues paper was the first consultation document. The Reserve Bank sought views about whether or not the range of topics and issues in the issues paper was complete, and whether there are certain issues that should be prioritised.

Submissions closed on 9 June 2017.

Submissions for publication

On 19 October 2017 the Reserve Bank published the individual responses received as part of the consultation, where consent to do so was provided by submitters.

BNZ, Kiwibank and Westpac also provided responses, but asked that they not be publically released.

Background

The review of the capital adequacy framework aims to identify the most appropriate capital adequacy framework for locally incorporated registered banks, taking into account experience with the current framework and international developments.