One of the more useful features of globalisation is that from time to time you get an outsiders perspective on what your own authorities and institutions are up to. The G20’s Financial Stability Board Peer Review of Australia provides just that with a glance behind Invisopower!. Here are the money quotes:
…there are lessons from the Australian experience for other countries:
• Strong economic fundamentals provide a crucial bulwark against the risks of a financial crisis, and appropriate macroeconomic policies matter as much for the health of the financial system as the strength of the supervisory framework;
• Authorities need to closely monitor identified systemic risks and, equally importantly, have the tools to take appropriate coordinated actions well before such risks manifest into problems; and
• A macro-prudential orientation to financial system oversight requires substantial inter-agency coordination, but the structure of effective institutional arrangements can differ substantially based on country-specific circumstances.
The post-crisis period presents a number of challenges for Australia, particularly in the context of domestic monetary policy tightening combined with relatively high household indebtedness against the backdrop of a fragile global economy. These challenges include:
• Changing economic structure and reliance on commodities. The economy – and, by extension, the financial system – is going through a period of structural change in response to the strong demand for commodities from emerging Asian economies; indeed, the IMF projects that, by 2015, as much as half of all Australian exports will go to China and India.
As a result, Australia’s terms of trade is at historic levels and the country is experiencing a commodity-inspired private investment surge. However, the economy’s increased exposure to potentially volatile and cyclical commodity prices warrants particular focus. The use of prudential tools may be considered to manage sector-specific risks stemming from the structural changes in the economy.
• Funding risks. Australian banks have made good progress in reducing their dependence on wholesale (particularly external) funding, and they should continue to work towards managing this funding risk. Funding structures can vary significantly depending on country circumstances, and it is both unrealistic and undesirable to eliminate wholesale external debt as a funding source. However, it is important to closely monitor and stress test banks’ overall liquidity positions; avoid over-reliance on any single (potentially volatile) source of funding; and ensure that funding is sufficiently ‘sticky’ and adequately matched to the maturity of assets. In addition, the Government’s initiative to develop a domestic deep and liquid corporate bond market as part of reforms to enhance competition in the banking system is welcome.
• Systemically important financial institutions (SIFIs). The presence of four domestic big banks presents two important policy challenges for the authorities. First, their size and nature of activities means that they could pose systemic and moral hazard risks in Australia. The authorities have a supervisory framework in place to address the risks posed by regulated entities (including SIFIs) through a graduated supervisory response.
Any additional measures undertaken by the authorities in this area will depend on, and will need to be consistent with, the policy work on SIFIs that is underway at the international level by the Financial Stability Board (FSB) and the Basel Committee on Banking Supervision (BCBS).
Second, while a concentrated system by itself is not necessarily less competitive, it is important to proactively promote competition and contestability, as currently proposed in the various government reform initiatives. Consumer protection measures and policies to develop market-based sources of financing are useful in that context.
In short, we get a tick for running a surplus to backstop bank profligacy. Though, one wonders if a little sectoral analysis would have been useful. We also get a tick for regulatory oversight and coordination, suggesting that the small town nature of Australian regulators (just pick up the phone and call your mate) works quite well.
On the painful side, as MB has argued, there are two adjustments confronting Australia. One is the mining boom, the other is the household credit bubble. Use of macroprudential tools could help manage both (presumably be preventing the mining boom from leaking into household borrowing, which seems rather like yesterday’s war just now). An alternative reading is that the FSB is suggesting Australia use some macroprudential tools to manage the boom, rather than monetary policy, and hence is an attack on the entire economic adjustment policy adopted by the RBA. It’s not clear to me which. Finally, we remain overly-exposed to wholesale funding and our four big banks are all too-big-to-fail, don’t compete and enjoy moral hazard.
Thanks for coming.
Deep T. will return with a detailed assessment. Full Review below:
