It's Still 'Binfield For Bankers'

The Banks Are Not Safe As Houses


Pleiades wanted me to have a look at something today to do with banks in the AFR. It's behind a pay wall so I can't really be copying and pasting the whole thing, but I want to share some things he wanted me to see:

The big four had been desperately pleading for APRA to kick the FSI's all-important capital and risk-weight can down the road at least 12 to 24 months. In its response, CBA amusingly had the regulator considering the recommendations through to 2018. Perfect for 27 times leveraged big bank bosses that can continue punching out 19 per cent returns on equity until policymakers wake up. 

That leverage number, by the way, is based on APRA's latest estimate of the big banks' assets divided by APRA's calculation of their common equity tier one capital as at December last year. Another way of expressing the same point is that the majors carry real, or non-risk-weighted, equity capital of just 3.7 per cent of assets. Perversely, you cannot get a home loan from the same banks providing that little equity, with most capping loan-to-property value ratios at 95 per cent.

------------ 

During a briefing with Murray for a panel session at The Australian Financial Review's Banking & Wealth Summit this week, he said it was "incredible" that the equity the majors hold against their home loans was completely destroyed in APRA's 2014 stress tests. The better capitalised regional banks had no such difficultly and were able to cover the losses flowing from the simulated defaults in a 1991-like downturn. 

The result should not, though, have been surprising. One only needs to read Westpac's response to Murray's report. The $114 billion bank revealed it only holds "capital of 1.32 per cent" against $468 billion of home loans (see second chart). That means Westpac is leveraging its wafer-thin equity 77 times when extending half a trillion dollars of finance to home owners, which is exactly the same leverage estimate we calculated in this column in July last year. Imagine how Westpac would react if you told them you could only provide a 1.3 per cent deposit for your home.

Which is to say the big 4 banks are really leveraged to the max on the strength of the Too Big To Fail guarantee. During the GFC, the Federal government under Kevin Rudd made courageous decisions to shore up the Big 4 banks plus Macquarie so they wouldn't collapse. By that, we mean so that something like 70% of Australians wouldn't lose their savings and deposits in a flash. Since then there's been BASEL and BASEL II to make sure banks held enough capital, but of corset was voluntary for the big banks to sort outlier ledgers. Somehow -  unsurprisingly - the Big 4 banks have dawdled on sorting out this issue and remain utterly vulnerable to the kind of seismic shift in the market place that could deprive them of liquidity or place them on the wrong end of a big margin call.

Which is kind of scary. The Federal Government under Tony Abbott might not be in a position to shore them up for ideological reasons or simple lack of brainpower or excessive love of  laissez faire neo-classical economics. Unlike under the ALP where they pulled out all the stops to make sure the banks didn't explode, this is a government that made all the noises to ensure Ford and General motors and Toyota gave up manufacturing automobiles in Australia for ideological reasons ("ending the age of entitlement!"). If something should happen, they will necessarily fuck it up because it's not so much in their blood or DNA, but in their defective ideology and therefore headspace.

Still, I shouldn't be slamming them for the fuck-ups of the Christmas Future they are yet to make. Nonetheless those Westpac figures are terrible. They sit as a grim warning to the irrational exuberance surrounding property prices in Sydney. And while it's having a difficult time figuring out a scenario in which the property Bubble pops in Sydney, if that should happen, it's going to be the Armageddon of banks we all feared when the GFC broke. 8years on, they've done nothing to fix the deer problem and set themselves up for bigger fall instead. What on earth were they thinking?

Sometimes these bankers and central bankers and prudential regulatory authority people live in a cloud of their own with gilded cages and distorted perspective. It's even more disturbing that they probably donate more towards the conservatives in the hopes of less regulation and after a generation of less and less regulation and oversight, they've created the current precarious position. Australia's economy might be advanced and post-industrial, but it is small. If the world's central banks are in Zero Interest Rate Policy land and can't get out of it, it's reasonable to think that Australia will be dragged down to that level. At a certain point there is no horizon for future growth - we'll arrive at the effective endpoint of development like the rest of the advanced economies have done. At which point it's conceivable that the only thing that can grow are house prices independent of any other economic indicator, and that is what is happening in Sydney - there is nothing but property to speculate upon, and that is why all the money is being printed by banks to place bets.

It sure is bleak.