The Australian Prudential Regulation Authority (APRA) revealed on Tuesday (9 July) that the major banks will have to increase their capital reserves by 3 percentage points of risk-weighted assets (RWA) by 1 January 2024.
The regulator initially proposed that the big four banks raise their total capital by 4 to 5 percentage points, to be absorbed incrementally over a four-year period from 2019 to 2023.
However, following consultation with industry, the regulator decided on a longer timeline and a lower target due to concerns raised about “a lack of sufficient market capacity to absorb an extra 4 to 5 per cent of RWA in tier 2 issuance and the potential to excessively increase bank funding costs”.
“APRA expects the issuance of an additional 3 percent of RWA in tier 2 instruments can be achieved in an orderly manner and be maintained through varied market conditions,” the regulator’s announcement stated.
The prudential regulator expects the new requirements to strengthen the loss-absorbing capacity of the major banks by a total $50 billion, while resulting in a minor rise in funding costs of less than 5 basis points.
Responding to the announcement, National Australia Bank said that based on its risk-weighted assets of $403 billion, as at 31 March 2019, it expects an increase of $12.1 billion of total capital, which it said would be raised primarily through the issuance of tier 2 capital, with a corresponding decrease in senior debt issuance.
Similarly, based on ANZ’s RWA of $396 billion as at 31 March 2019, the major bank expects an increase of approximately $12 billion, with an equivalent decrease in other senior funding.
Commonwealth Bank also said that based on its RWA of $447 billion, about $13 billion in additional capital will need to be raised, which will likely result in a corresponding decrease in senior funding.
Westpac said that based on its risk-weighted assets of $420 billion, as at 31 March 2019, an additional $13 billion will need to be sourced, though it noted that it is “too early” to determine the actual total cost because the pricing of tier 2 capital will depend on the market price at the time of issue and that the issuance will likely reduce the need for other forms of funding, which could also impact the cost of funding.
APRA noted that the “overall targeted calibration of an additional 4 to 5 percentage points of loss-absorbing capacity remains unchanged”, and that it will consider the “most feasible alternative method” of sourcing the remaining 1 to 2 percentage points, in consultation with industry.
“The global financial crisis highlighted examples overseas where taxpayers had to bail out large banks due to a lack of residual financial capacity,” APRA deputy chair John Lonsdale said.
“Boosting loss-absorbing capacity enhances the safety of the financial system by increasing the financial resources that an ADI holds for the purpose of orderly resolution and the stabilisation of critical functions in the unlikely event that it fails.”
APRA said for small to medium-sized ADIs, extra loss-absorbing capacity would be considered on a case-by-case basis as part of the resolution planning process.
The changes are intended to improve the Australian financial system’s resilience to shocks and stresses in closer alignment with international practice and minimise taxpayer support, and fulfil a recommendation from the 2014 Financial System Inquiry that APRA implement a framework for minimum loss-absorbing and recapitalisation capacity.
[Related: APRA finalises mortgage lending reforms]