Time to revisit banking in New Zealand?

By Andrew Bascand, Managing Director, Portfolio Manager

Last year, after having blocked the National Party’s call for an enquiry into bank competition, the Labour Government issued the terms of reference for a Commerce Commission Study into personal banking services. That study will examine whether there is sufficient competition to promote innovation and better outcomes for consumers.

A draft report is due in March this year before a final report in August. Perhaps readers may assume the concentrated nature of the market creates market power leading to consistently high profits. After all, the four large banks (ANZ, ASB, BNZ and Westpac) make up about 85% of the lending market and a larger share of the bank deposit market. Many pundits remark on the high dollar value of profits stemming from the banks. For investors in the share market-listed banks, however, it is the return on invested capital, earnings per share and dividends per share that are more useful markers of profitability. And, on those counts, the idea that banks are over-earning relative to capital employed is not an obvious conclusion to reach.

The profitability picture is clouded by regulatory decisions on how much capital systemically important banks need to hold to both protect their prudential requirements and those of the broader financial system. The recent Reserve Bank of New Zealand Capital Review was a 5-year process which examined capital adequacy rules for New Zealand banks. The release of that review in 2019 set in train an implementation timetable that currently runs through to 2028. A similar Reserve Bank of Australia review changed the recognition of capital held in subsidiaries, such as the New Zealand banks, having the effect of further increasing capital requirements.   While all these moves have clearly increased the resilience of the banking system here and in Australia, submissions highlighted there is no such thing as a free lunch. As Australian Senator Brandis noted in 2010, “in the tension between stability and competitiveness, we sacrifice stability for every incremental gain in competitiveness. The more competitive the system is, the more the banks will also factor in a greater premium for risk.” At the end of the day, capital needs to strike a fair rate of return across different sectors, and a fair rate of return for risk.