APRA swings wildly at macroprudential

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Find below a disappointing speech this afternoon from APRA’s Executive General Manager, Charles Littrell, dedicating much time and space to backslapping APRA’s discretionary approach to financial stability and giving macroprudential reform short shrift.  We know that APRA did a poor job in the years before the GFC because without the wholesale intervention of government into the banking sector it would have collapsed. For Mr Littrell to therefore continue to describe the Global Financial Crisis as the North Atlantic Financial Crisis, as if our financial system wasn’t fundamentally rocked and changed, is, in a word, dung.

We also have the following from a former APRA insider that directly contradicts Mr Littrell:

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That is not to say that APRA has not done a better job since. It has. Especially in restricting banks to one-to-one deposit growth versus lending growth. Of course that shift is also more proof that its pre-GFC methods failed.

There are some strengths in the speech. Seeing a financial regulator actually mention and incorporate Hyman Minsky is one. But the purpose of the speech is mostly to defend current approaches to defending against Minsky’s cycle of ponzi finance and Mr Littrell objects to notions that macroprudential policy should be stiffened up with real rules – instead of discretionary judgements made by Mr Littrell – in the most flimsy way:

In the particular context of macro prudential supervision, we see several threats to good supervision emanating from an overly rules-based approach.

Implementing macro prudential supervision in many national jurisdictions runs the risk of the central bank or the finance ministry telling the prudential regulator how to use the regulator’s tools, even when the regulator doesn’t necessarily want to use them in that way. There are a great many problems with such an approach. The list starts with a resultant fuzziness in responsibility for prudential outcomes, continuing through the potential to impair relationships between the key public sector agencies, and finishing with a reduction in confidence on the part of the prudential regulator. In the Australian context, these would be disastrous results; we leave other jurisdictions to consider the implications in their countries.

Fortunately, there is no intent in Australia to take such an approach. APRA, and only APRA, uses the regulatory tools related to prudential supervision, and the more general tools of supervision for sensible behaviour by our regulated flock. A second problem with macro prudential supervision is that it has become something of a ‘magic wand’ in the global regulatory debate. Over-confidence in a regulatory tool risks under-reliance upon supervision, and good supervision is the best countercyclical tool available to us.

Macro prudential supervision is only one of many rules based magic wands that are progressing in the world. Others include stronger capital and liquidity requirements, stress testing, recovery and resolution plans, and statutory schemes to facilitate the resolution of a systemically important financial institution. All these reforms are useful, but if they reduce a regulator’s resolution to supervise, or the political and public sector support for proactive supervision, they can do more harm than good.

At its best, macro prudential supervision is something that the prudential regulator already undertakes, and at APRA we hope that we are in this category. Our macro prudential work receives substantial assistance from the RBA in particular and the public sector in general, but at the end of the day, all supervision, micro and macro, is in APRA’s hands. I immodestly assert that these are a reasonably safe pair of hands.

Ahem…OK.

Point 1: Rules will compromise responsibility and accountability. This is a danger in the current system. Are we to believe that APRA exists in some oxygen tent where it neither talks to the RBA or government and its judgements aren’t influenced? Of course not, indeed Mr Littrell describes extensive inter-agency cooperation later in the speech. Rules give you some benchmarks around which to judge accountability.

Point 2. MP rules have become a “magic wand”. That looks like argumentum ad hominem to me. Attacking the man (or the rules), not the arguments in favour of having the rules. Littrell then takes this libel and proceeds circulus in demonstrando (circular argument) to assert his own position is superior.

Point 3.  Rules will reduce supervisory intensity. Maybe. But there’s no argument here to prove it. Perhaps Mr Littrell is threatening it.

Point 4. See above quote from former APRA insider.

In short, Mr Littrell’s speech this afternoon is so poorly reasoned that I can only wonder at the kind of “arguments” he accepts from bankers when they present him with a proposal to expand credit. My faith in the regulator is duly shaken and desire for  hard and fast rules rises accordingly.

Charles Littrell – Macro Prudence vs. Macro-Prudential Supervision – Macquarie – Sydney 22 March 2013 (1)…. by Heidi Taylor

David Llewellyn-Smith

David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.

He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.

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Comments

  1. Once again, I will draw readers to the RBA’s own research showing that macro-prudential rules (particularly LVR restrictions) work in dampening the credit cycle:

    “Actions categorised as prudential measures (maximum LTV and DSTI ratios, provisioning requirements, real estate exposure limits and risk weights) are consistently jointly significant in our regressions. Decreases in the maximum LTV ratio are associated with reductions in the growth rate of housing prices. Similarly, reductions in the maximum DSTI ratio and increases in provisioning requirements are associated with reductions in the growth rate of real housing credit…

    Taken together, our results suggest that certain types of macroprudential policies can be effective tools for stabilising housing price and credit cycles. This is good news for central banks seeking additional flexibility in their pursuit of macroeconomic and financial stability objective.”

    • Diogenes the CynicMEMBER

      Thanks for continually banging the drum on the need for macroprudential policies. Littrell’s defence is smoke thin at best. Of course you could question why they don’t use such tools more widely, take your pick they are either:
      (A) Incompetent
      (B) Smug, cautious bureaucrats who do not want to rock the boat
      (C) In the pay of bankers or looking for lucrative banking positions after leaving APRA.

  2. Littrell is being honest. There is no intention on the part of anybody to do anything macro at all. He’s just baldly stating the truth.

      • It doesn’t matter what satisfies me! Macro tools obviously would – but they ‘aint coming.
        Regardless of the merits of Littrell’s speech I affirm that NOTHING Macro is going to be done, anywhere in this neck of the woods! If it was going to happen, it would have done at a much more needed and appropriate time. As I’ve suggested before, The Time for Macro…has sadly come and gone….

        • I had no idea you felt so diempowered, Janet. Change does not happen by throwing in the towel.

          It comes slowly. First a few pebbles start down the slope, next a few stones, eventually some boulders join the slide.

          Finally it’s an avalanche.

          MP’s time has come all right. It will be slower than elsewhere. It will take further crisis. But it will come.

    • Agree. They have no intention on doing squat other than repeating the past. When questioned why, their response is weak. Why change; it worked so well before it can work again.

  3. Maybe allowing the banks to go into bankruptcy would have ended the property bubble?

    Now they are bigger and more profitable than ever while property continues to rise because of highly leveraged speculators enabled by the banks.

  4. Before you swing wildly at APRA, you should understand how Wallis designed the system of financial regulation in 1997. Luci Ellis of RBA didn’t really know what she was talking regarding macroeconomics and banking supervision. Charles Littrell was merely stating a matter of fact: macroeconomic matters are solely the province of RBA. In the unlikely event of the RBA having a strong view on macroeconomics, RBA would not seek to influence APRA on its banking supervision.

    • WTH!! Someone else had argued the reverse is true – that RBA does not have a mandate to bring in macroprudential rules. Either way, they are both members of the council of financial regulators – considering both APRA and RBA have entire departments looking at macro financial matters, it is just a matter of co-ordination between the two.

      • APRA is a regulator of institutions and it does not have an entire department looking at macro matters.

    • As Littrell himself admitted, thankfully the regulators talk extensively and often. Do you think they discuss the weather?

      It still doesn’t excuse circular arguments. I’m happy to be convinced that MP is a bad idea. But it’ll take an argument to do it. Simply repeating over and over that the current approach is awesome is NOT an argument.

      • They may well discuss the weather and a heap of other things. There is not much evidence from publication, speeches and other reports that macroeconomics is of much concern.

        Given the poor quality of macroeconomics in forecasts, public discussions, policy etc. it may not contribute that much anyway. For example, even during the sub-prime crisis, Bernanke’s view that there was no real problem, dominated government views all over the world.

        Most regulation is politically driven, since finance and economics are not science.

      • Also I must add I agree that good macroeconomics is very relevant and important. But we are dominated by bad macroeconomics at the moment and APRA is not structured to include macroeconomics in any formal way in its bank supervision.

    • The Australian Prudential Regulation Authority (APRA) needs a name change then.

      Or maybe this is the fundamental issue as stated on the home page:
      “APRA is funded largely by the industries that it supervises.”

  5. The speech is self-serving boasting which is so misleading that it borders on a lie. Look at the macroeconomic data on private sector growth in debt and in particular mortgage securitization since 1995. The rapid growth can only occur with a lowering of lending standards, through banks adopting new and more lax serviceability criteria.

    Australia did not dodge the bullet because it saw what was coming. Globalized macro-prudential regulation prevents one regulator from having different opinions and act differently from other countries (which would have interest rate and currency implications). No one was allowed to see what was coming. Not one regulator outside the US did, or could, challenge what Bernanke was saying.

    Australia dodged the bullet simply because it was slower in following the “big brothers” in lowering lending standards. It made vague noises in response to public concerns. APRA did not tighten lending of the banks nor materially curb lending (despite the list of boasts). In fact, on 27
    September 2003, APRA announced “a concessional risk-weight of 50 per cent applies to loans that are fully secured by registered mortgage over a residential property, provided certain criteria are satisfied.” What is this if not fuelling leverage of the banking system?

  6. I reckon Mr Littrell has every right to claim APRA did an excellent job pre/during/post GFC. I reckon they did this through a mixture of good policy and influential/pragmatic oversight.

    The old guard at APRA have considerable experience dealing with bank management stupidity. In Mr Littrell’s case it was with Westpac in the late 80’s/early 90’s where he saw first hand the impact of out of control lending and dysfunctional senior management.

    The world is full of rules yet bad things or ‘three in ten thousand’ events seem to happen with increasing regularity. Rules/policy are interesting but, in my experience, hands on flexible application of policy works better.

    Pre and during GFC, behind the scenes, at Board level and in management contact APRA took a hard line on credit standards and capital adequacy with the banks. There was plenty of tension as leverage and buybacks were the easy way out for bank CFOs/Boards to satisfy the analyst community.

    In 2007 Mr Littrell was all over bank managements for (some of) their stupid assumptions that they could further increase leverage. One CFO in particular was heavily focused on pursuing a buyback for a bank that was only marginally capitalised at the time.

    Mr Littrell and his colleagues deserve a round of applause for their handling of financial institution regulation during the GFC.