A spat between two government agencies over major reforms aimed at strengthening the financial system and protecting bank depositors has been revealed.
Treasury and the Reserve Bank (RBNZ) have been at odds over the relationship between new bank capital requirements and a proposed deposit protection regime.
A swathe of documents, released by the RBNZ on Thursday, shows it wrote to Finance Minister Grant Robertson on October 8 to air “serious misgivings” about Treasury’s “flawed and misguided” advice on how decisions on the two changes should be coordinated.
The RBNZ on December 5 announced banks have to hold an additional $20 billion of capital, with the requirement being phased in over seven years.
Meanwhile Treasury continues to consult on the design of a deposit protection regime, as a part of its review of the Reserve Bank Act. The regime will mean that if a bank collapses, a fund that banks will pay levies into will be drawn down on, so people with money deposited in that bank can get up to $50,000 back.
According to the RBNZ, Treasury was concerned about the RBNZ finalising its bank capital rules without having regard for the deposit protection regime being developed.
Interest.co.nz has asked Treasury for a copy of the advice it provided Robertson.
The RBNZ's October briefing said Treasury suggested the capital review shouldn’t have proceeded on its “current basis”. It was afraid requiring banks to hold as much additional capital as proposed by the RBNZ would affect their abilities to minimise losses during a time of crisis.
The RBNZ’s financial system policy manager, Ian Woolford, slammed this rationale.
He told Robertson: “There is deep-seated confusion in the Treasury briefing about the trade-off between capital and crisis management policies…
“‘Bank capital policy’ is the fence preventing bank failure and ‘bank resolution’ is the ambulance at the bottom of the cliff. These are both necessary policies and complementary. They are also distinct policies…
“They each serve different purposes.”
Woolford said there was “unfortunate confusion” in the Treasury briefing over capital instruments.
“Treasury implies that funding provided to banks by way of bank capital replaces and crowds out funding that is potentially valuable in resolution,” he said.
“Treasury then goes on to say that the Reserve Bank should consider lower capital requirements because the funding is needed for resolution (this is like saying the fence should be taken down because the metal is needed for a high-spec ambulance).”
‘Serious practical objections’
Woolford said it made sense for crisis prevention to be prioritised above post-disaster clean-up.
Even if the RBNZ accepted Treasury’s “unconvincing and overstated” “conceptual linkages” between bank capital and bank resolution, “there would be serious practical objections to delaying the finalisation of the Capital Review to such an indeterminate date and setting aside our existing mandate to maintain a sound and efficient financial system”.
Woolford pointed out that while the RBNZ had done four in-depth rounds of consultation on bank capital, proposals around deposit protection were still “very high level” and needed “extensive development and calibrations”.
His comments align with those made by RBNZ Governor Adrian Orr on December 5, when interest.co.nz asked him what bearing work on a deposit protection regime had on the RBNZ's final bank capital decision (watch video at 28min 59sec).
Woolford told Robertson: “The sweeping assertions and mischaracterisations in the Treasury briefing are too numerous to deal with in this short briefing.”
He indicated that Treasury may have joined the choir of mainly bank stakeholders concerned about the cost of the RBNZ's capital proposals.
Woolford said: "Simplistic assessments of relative costs can mislead and confuse, especially with respect to complementary policies (i.e. trading off capital for crisis management policy).”
The RBNZ did in the end decide to take a softer approach than proposed in terms of what the additional capital banks need to hold must be comprised of. It also extended the timeframe banks have to meet new rules and released a detailed cost/benefit analysis.
While Treasury advised Robertson on the intersection between bank capital and Reserve Bank Act changes, Robertson only has the power to make decisions on the latter. The RBNZ operates independently of the government and did the bank capital review in its capacity as New Zealand’s banking supervisor, responsible for maintaining financial stability.
Meanwhile Cabinet is expected to make a decision on the design of a deposit protection regime by mid-2020.
Decisions are yet to be made around the nature of products deposit protection will cover, the amount and nature of prefunding the scheme will need from the industry, the conditions for the government funding backstop, where the scheme will be located, and how it will be governed.
Treasury will also continue to consult on the possible role of depositor preference, where preferred depositors’ claims are paid out before the claims of other unsecured creditors in the event of a liquidation.
Robertson echoes RBNZ’s analogy
Asked by interest.co.nz on Wednesday whether the bank capital decision had any bearing on his decision to set the deposit protection limit at $50,000, Robertson said, “Not particularly”.
He said this level was chosen as it would fully cover 90% of depositors.
When asked on other occasions about the link between bank capital and deposit protection, Robertson has used the ‘fence at the top of the cliff, ambulance at the bottom’ analogy the RBNZ uses to highlight their different functions.
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