Australian banks in crosshairs of New Zealand regulators

A powerful NZ regulator says that Australia’s big four banks ‘just got complacent’ on risk and compliance.

Adrian Orr, governor of the Reserve Bank of New Zealand. Picture: Bloomberg

The financial services royal commission, or even the fear of it, prompted a multi-year splurge by the major banks on risk and compliance – a wall of money which powerfully demonstrated that the sector had under-invested and over-earned for too long.

However, just as an investment cycle worth billions of dollars reaches its peak, regulators in New Zealand have been asking the same uncomfortable questions about institutional shortcomings in governance, accountability and culture.

The banks’ frequent risk failures are no longer viewed as isolated incidents but part of a wider problem requiring close examination.

That’s why the Reserve Bank of NZ and the Financial Markets Authority recently announced a cross-sector “thematic” review of governance, to be conducted next year.

The NZ subsidiaries of the big four are dwarfed by their operations in Australia, so the scale of the catch-up investment will be less significant.

Even so, RBNZ deputy governor Geoff Bascand, who hiked the banks’ tier one capital ratios to make them more resilient and won’t be missed by the sector when he steps down in January, is already making it absolutely clear that there is considerable work to be done.

Speaking to Four Pillars after his virtual appearance at last week’s Citi Australia and NZ annual investment conference, Bascand bluntly said that the banks’ risk management systems were not as good as the RBNZ had believed, or even the banks themselves had believed.

“If I was really honest about the past, they just got complacent,” he said.

“What we’ve found as we’ve done deeper dives, and so have they, is that there are still shortcomings in their systems and level of compliance,” he said.

“Some issues have been ignored by management for quite a while – an example of that was the liquidity thematic review of the banks.

“There were a lot of findings that were a bit disappointing, mostly not really severe but certainly widespread, and I think this reflects a lack of investment and a lack of attention to it for a number of years.

“So historically it’s been underdone.”

The most recent of a litany of risk failures was the RBNZ’s formal warning to Westpac New Zealand in August over thousands of unreported international wire transactions, prescribed under anti-money laundering laws.

Last March, the same bank was ordered to review its risk governance practices after bungling its liquidity coverage ratio.

ANZ and National Australia Bank were sin-binned, as well, in 2019 for capital calculation errors, with ANZ required to produce two reports showing it was operating prudently and NAB on the receiving end of precautionary capital adjustments.

Fed up with the sector’s business-as-usual approach to continuing governance failures, the RBNZ joined with the Financial Markets Authority to announce the cross-sector governance review in August.

Boards and senior management are in the regulators’ crosshairs, with the focus on their ability to effectively govern and provide the required level of oversight.

The review is expected to take 12 months from the time a request for information is sent out to participating entities, which include 32 companies from four sectors – banking, insurance, non-bank deposit taking and investment management.

All measures are on the table to address the banks’ governance shortcomings. New legislation will empower the RBNZ to embed full-time supervisors in regulated entities – an initiative introduced here by former Australian Securities & Investments chair James Shipton.

Bascand is not ruling out such an approach, saying it’s “certainly possible”.

“There are a number of ways to do it but you need verification that things are being done; you can’t just take it at face value,” he says.

“We’re being more demanding so we’re in that phase where the more we dig, the more we tend to find.

“We’re raising the bar and we’re going to keep the heat on, and they need to invest more in their systems and compliance – old models, old processes and old ways of doing things.”

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The great rate debate

Minutes from the Reserve Bank’s board meeting in October confirm that the arm-wrestle with the markets over interest rates is continuing, and that macroprudential measures are the preferred weapon to contain the housing market because of the collateral economic damage caused by monetary policy.

RBA governor Philip Lowe is currently turning a blind eye to inflationary spot fires, notably in New Zealand where third-quarter prices surged at their highest level in a decade. The governor and his board see no reason to adjust current guidance – that the cash rate will not be lifted until inflation is sustainably within the RBA’s target band of 2-3 per cent.

According to the central bank, this will not be achieved until 2024, when the labour market will be tight enough to generate strong wage growth.

Lowe’s answer to the argument that near-zero rates have triggered an asset boom, particularly in housing, and that the bubble will inevitably burst, is carefully targeted macroprudential policy.

While the minutes acknowledge that tighter monetary conditions would see lower housing prices and credit growth, there would also be fewer jobs and lower wages growth.

The goals of monetary policy – full employment and inflation within the target range – would therefore become more remote.

The RBA’s strategy covers all bases but the market is betting against it, believing that the first rate hike will come around the end of next year.

The longer it’s delayed in the current frothy environment, the more likely it is that the prudential regulator will be forced to pull harder on the macroprudential policy lever.

Twitter: @Gluyas

Originally published as Australian banks in crosshairs of New Zealand regulators