APRA: Banks need zero, negative rate ‘fixes’ by April 2022

Banks have until April to develop ‘tactical’ short-term fixes for any future zero and negative cash rate scenarios.

APRA wants banks better prepared for negative rates

The Australian Prudential Regulation Authority has given banks and other authorised deposit-taking institutions until April next year to prepare for zero and negative cash rate scenarios.

While the Reserve Bank has ruled out negative cash rates for Australia, the financial systems safety regulator said it “does not preclude the possibility” of it happening in the future and it wants better preparedness.

Similar moves have been initiated by overseas regulators, including the Bank of England, in response to weak economic growth, made worse by the Covid-19 pandemic.

The European Central Bank introduced negative rates in 2014, but the response has reportedly been mixed with minimal impact on a lending boost to economies or better outcomes for business or home loan customers.

APRA says its move is designed to ensure financial institutions, including neobanks or digital banks like Judo, Tyro and others, can operate with zero and negative interest rates, if required.

An APRA spokesman declined to comment on the timing of the consultation 18 months into the pandemic, rather than at the start of it.

It expects banks and other institutions will “at a minimum, develop tactical solutions” by April 30.

“Tactical solutions are typically shorter-term fixes, involving workarounds on the periphery of existing systems, along with overrides in downstream systems,” APRA said in its letter to banks on Monday.

“All products and activities are in scope for this expectation, except for lending products that do not reference the cash rate or a market rate including business lending, residential mortgages, personal loans and credit cards.”

APRA said the risks arising from lack of preparedness to be material because it could have significant implications for institutions across risk management, hedging, operational processes, contracts, product disclosures, IT and accounting systems, among other areas. “Insufficient preparation for the possibility of zero and negative interest rates could therefore have an adverse impact on an ADI, its customers and the markets in which it operates.”

Since APRA first initiated its assessment in December last year, most institutions have indicated that they are typically well-placed to deal with zero or negative rate changes.

However, for some these rates on wholesale and retail lending and deposit products would pose operational challenges, APRA said.

“Furthermore, a number of ADIs noted high costs and competing priorities as being constraints for the implementation of permanent solutions.”

Market expectations that the Reserve Bank will start raising its official overnight cash rate target as soon as next year were initially bolstered by the central bank’s plan, revealed after last week’s board meeting, to lessen its bond buying from September.

The RBA also tweaked its guidance to say that its central scenario for the economy was that its precondition for hikes – “actual inflation … sustainably within the 2 to 3 per cent target range” – will not be met before 2024. Previously it said this was “unlikely to be until 2024 at the earliest.”

But speculation of a rate hike in 2022 was pared back later last week after Reserve Bank Governor Philip Lowe said in his speech to the Economics Society of Queensland “we also expect that it will take until 2024 for inflation to be sustainably within the 2 to 3 per cent target range.”

According to Westpac, the market-implied chance of a 25 basis points increase in the cash rate target from the current record low of 10 basis points to 35 basis points by August 2022 rose to 72 per cent last Tuesday, before falling to 55 per cent by last Friday.

Banks have until August 20 to consult with APRA on the matter before it finalises its expectations by the end of October.

The Australian Banking Association, led by chief executive Anna Bligh, said it would seek advice from members on “whether they would like us to coordinate an industry response”.