Banking royal commission: Will the credit squeeze become a credit crunch?
PHOTO: The big four banks have all tightened their home loan assessment processes this year. (ABC News: Alistair Kroie)
Following the release of the banking royal commission’s interim report, analysts are divided about just how much further the lending slowdown has to go.
UBS analysts have long been bearish on the banks and the interim report did nothing to change their view.
“The risk of the current credit squeeze turning into a credit crunch is real and is rising, in our view,” they wrote.
“Given the comments by the Treasurer and calls by the Labor Party to further extend the [royal commission], hopes that the final recommendations may be watered down or not adopted by the current or future governments appear highly optimistic.
“We believe the Australian banking sector is facing a period of substantial and sustained earnings pressure which is likely to last several years.”
In the interim report, commissioner Kenneth Hayne argued that responsible lending requires a proper income and expenses assessment.
“Verification calls for more than taking the consumer at his or her word,” he said.
“Verification is often not difficult. Most persons have income deposited to a bank account and there is, therefore, a bank statement showing receipt of the income claimed that will be readily available to the consumer … many of a consumer’s main outgoings will be recorded (or at least reflected) in the same bank statement.”
UBS analysts estimate that a move to full verification of loan applicants’ expenses will reduce maximum borrowing capacity by around 30 per cent.
“We estimate that the current improvements and tightening of underwriting standards the banks have undertaken have reduced owner occupied maximum borrowing capacity by 7-10 per cent and investment property by ~20 per cent,” they wrote.
“Therefore there is likely to be a further substantial tightening in maximum borrowing capacity to come.”
However, other analysts think the bulk of the credit tightening has happened.
“I’m not sure it will go further, I think it already has been substantial,” UTS Business School industry professor Warren Hogan told The Business.
“It will take more time for that to play out and I think it’s showing up in particularly the Sydney and Melbourne markets, with what has been a pretty substantial decline in house prices in the last six months.”
The Motley Fool general manager Scott Phillips agrees, telling The Business the banks are aware of what is required of them, following the revelations at the banking royal commission hearings.
“If they can get in front of it they get to say politically and in the public sphere, ‘look what we’ve already done, we’ve learnt the lessons, you don’t need to regulate us too hard’,” he said.
“They’re in damage control right now and you might say, generously, they’re also trying to do the right thing.
“Maybe that’s true, maybe that’s not, but they are doing those things already, the commissioner notes that.”
Ratings agency S&P has also observed the actions already taken by the banks in its assessment of the interim report.
“Shortcomings identified by the commission have not themselves undermined the business positions, earnings, or capital profiles of the banks sufficiently to compromise our existing view of the credit and risk profile of banks,” said S&P Global Ratings.
“We are of the view that banks have themselves started to implement changes to conduct, culture, and governance ahead of any recommendations that might be imposed on them when final recommendations are implemented.”
S&P said the interim report has had no impact on the credit ratings of the Australian banks but it is eyeing the release of the final report, which is due by February 2019.
Regulatory ‘whack-a-mole’ could see new risks emerge
As banks pullback on new lending, other players are looking to fill the void.
“We are really seeing a big slowdown in bank lending but non-bank lending has picked up … in the last three months, at an annualised rate, it’s surged to a 25 per cent pace,” Professor Hogan, the former chief economist of ANZ, told The Business.
Related Story: Melbourne Dominates Australia’s Housing Hotspots List
The shift to the non-bank sector could have unintended consequences, according the Motley Fool’s Scott Phillips.
“The risk here is that by whacking one mole in one spot, another one pops up,” he said, noting a lack of oversight of non-bank lenders.
“The chances are that you make the big four play by the rules and then the cowboy sector starts doing things you wish didn’t happen — that does tend to create risks in the financial services market that are unintended and pretty unsatisfactory.”
Professor Hogan believes the potential ramifications go beyond the banking sector.
“If this economy continues to do well, and I don’t think there’s any reason to think it won’t for the next little while, it could become a real problem, and it could become a problem for monetary policy,” he said.
“In the last couple of years our monetary policy has shifted to [macroprudential], where we’re using regulation to try and slow growth in credit and leave interest rates where they are, but if more and more activities are happening away from the prudential oversight, then you are going to have to revert back to the interest rate tool.
“We’ve seen it all around the world over time that it is this so-called ‘shadow banking’ that can really create problems for financial stability and that trend is starting to emerge.”