By Gareth Vaughan
New statistics released by the Reserve Bank show the country's banks, as a group, are easily meeting the key parts of the prudential regulator's Liquidity Policy, - the core funding ratio (CFR) and mismatch ratios. In fact they're already well ahead of where the Reserve Bank plans to increase the CFR to from next year.
This confirmation comes through the Reserve Bank making public a series of statistics on the aggregated funding and liquidity position of locally incorporated banks, who must comply with the Liquidity Policy, which includes minimum ratios for expected cash flows and for core funding.
The figures show, as of August, locally incorporated banks had a combined CFR of 84.3%, with NZ$231.008 billion of core funding against NZ$274.107 billion of total loans and advances. The country's locally incorporated banks include ANZ New Zealand, ASB, Bank of Baroda, Bank of India, BNZ, Kiwibank, Rabobank NZ, SBS Bank, the Co-operative Bank, TSB Bank, and Westpac NZ.
Introduced in April 2010 as a move designed to reduce New Zealand banks' reliance on short-term overseas borrowing, the CFR sets out that banks must secure at least 70% of their funding from either retail deposits, or wholesale sources such as bonds with durations of at least a year. The Reserve Bank lifted the CFR to 70% from 65% on July 1 last year, and plans to increase it again, to 75%, from January 1, 2013.
The combined CFR as of August is the second highest monthly one recorded thus far by the Reserve Bank, behind only 84.5% in July this year. The lowest recorded was 77.8% in July 2010.
Meanwhile, the banks are also subject to minimum one-week and one-month mismatch ratios. The aim of these is to make sure banks have enough cash and liquid assets accessible if creditors suddenly come knocking, or as the Reserve Bank puts it, to reduce the risk that an individual bank is brought down by a short-term loss of confidence.
The one-week mismatch ratio models what a bank’s expected cash inflows and outflows might be over the first week after a "serious" loss of confidence in the bank. To be able to meet the minimum ratio requirement, a bank must hold a sufficient stock of liquid assets to be able to fill the projected mismatch between cash inflows and outflows. Liquid assets include securities that the bank ought to be able to sell quickly and at a reliable price, such as New Zealand government bonds The one-month mismatch ratio is the same as the one-week ratio, albeit over a one-month stress period.
The Liquidity Policy sets out that neither mismatch ratio should be less than 0% at the end of each business day. As of August, the one-week ratio was 5.6% and the one-month ratio was 6.4%. The one-week ratio is at its lowest equal level, with 5.6% also having been recorded in January 2011. The highest the one-week ratio has been since the policy's April 2010 introduction was 8.2% last December. The one-month ratio's low point was 6.1% in September 2010 and its high so far 9.4% in December last year.
The figures come from monthly reports the banks must submit to the Reserve Bank. These reports cover compliance with the minimum ratios, a breakdown of liquid assets held by the banks, data on cash inflows and outflows broken down by maturity, details of new funding raised over the latest month, and the cost of that funding.
The Reserve Bank notes that for any business, liquidity risk is the risk it won't be able to meet its financial obligations as they fall due. If this happens, it may lead to a sudden loss of confidence in a business, and, potentially, immediate default on its debts.
"Banks are particularly vulnerable to liquidity risk as a result of the ‘maturity transformation’ role that they play in the financial system. Retail banks take in short-term or on-call deposits, while a major part of their lending out is in long-term residential mortgages," the Reserve Bank says.
The introduction of the Reserve Bank's Liquidity Policy featured in an article in The Economist in September 2009 entitled Lord of the ratios, which noted the Reserve Bank had become the first such authority to adopt hard-and-fast liquidity rules since the global financial crisis.
This article was first published in our email for paid subscribers this morning. See here for more details and to subscribe.