The Reserve Bank of Australia released its half yearly Financial Stability Review Friday which provides the Bank’s assessment of the current condition of the financial system and potential risks to financial stability. The RBA said financial stability risks have increased over recent months. Global financial conditions have continued to tighten as persistently high inflation has prompted an unusually rapid and synchronized increase in policy rates in advanced economies. Growth forecasts for the global economy have been revised down sharply and geopolitical tensions have severely disrupted energy markets.
A turn in the global credit cycle is likely at hand, though from a starting point where loan arrears are very low and large banks are liquid and well capitalized.
RBA patience at an end
Highlights via Reuters
- Financial stability risks have increased globally
- Markets stressed by synchronised policy tightening, geopolitical tension, higher us dollar, rising energy prices
- Stability risks would be magnified by further substantial tightening in global financial conditions
- Australian banks liquid, well capitalised and resilient to any loan arrears
- Important that bank lending standards remain prudent
- Australian households and banks generally have strong financial positions
- Some households already feeling strain from higher rates, likely to last for some time
- Lags mean rate rises yet to pass through completely to mortgage payments
- Small group of borrowers particularly vulnerable to repayment difficulties
- Most mortgage holders have substantial equity in their homes, could weather very large price falls
- Many businesses face rising cost pressures, higher rates, slowing revenue growth
- Indicators of financial stress likely to increase in period ahead
- Cyber-attacks, climate change are major challenges to financial systems
Financial Stability Review – October 2022
Financial stability risks have increased over recent months. Global financial conditions have continued to tighten as persistently high inflation has prompted an unusually rapid and synchronised increase in policy rates in advanced economies. Growth forecasts for the global economy have been revised down sharply and geopolitical tensions have severely disrupted energy markets. A turn in the global credit cycle is likely at hand, though from a starting point where loan arrears are very low and large banks are liquid and well capitalised.
In response to the sharp increase in interest rates and an increasingly uncertain outlook for the global economy, financial asset prices have declined significantly and volatility has risen over recent months. Trading conditions in energy markets, particularly for European gas, have remained fragile following Russia’s invasion of Ukraine. Heightened volatility in global financial markets has seen margin calls and liquidity shortfalls transmit through parts of the financial system, including non-bank financial institutions where regulators have less visibility over the use of leverage. Bank funding markets have been less affected by the recent pick-up in financial market volatility.
Beyond financial markets, the impact of higher interest rates has been most evident in the slowing or reversing of housing price growth in many economies after a large run-up in prices over recent years. Credit remains readily available to households and firms, but growth in housing credit is slowing alongside higher interest rates.
Different regions are experiencing different financial stability challenges. A sharply deteriorating outlook for growth and inflation in Europe has reignited concerns over sovereign credit risk and related banking sector vulnerabilities in parts of the euro area. The tightening in global financial conditions, appreciation in the US dollar and high energy prices have contributed to difficult funding conditions for some emerging market economies. In China, policymakers have responded to deteriorating conditions in the property sector and the impact of rolling lockdowns by stepping up policy support; however, the policy challenges are becoming more complex and the medium-term outlook more uncertain as a result.
In Australia, households, firms and banks are generally entering this more challenging environment in a strong financial position, though pressures on household budgets and business cash flows are rising and housing prices are declining. Many Australian households and businesses built up substantial savings buffers during the pandemic, and strong growth in incomes has supported the recovery in household consumption and contributed to low levels of loan arrears.
However, the resilience across private sector balance sheets in Australia is unevenly distributed. Some households are already feeling the strain from higher interest rates and inflation, and this is likely to continue for some time. A small number of borrowers have both high debt relative to their income and low saving and equity buffers; these households are particularly vulnerable to shocks. Most borrowers have accumulated a large amount of equity in their homes, reflecting the large run-up in housing prices over recent years and the small share of high loan-to-value lending. This reduces financial stability risks in instances where borrowers encounter debt-servicing difficulties. Business insolvencies have picked up toward more normal, pre-pandemic levels, including in sectors where cost pressures are acute.
Banks in Australia remain liquid and very well capitalised. Large capital buffers mean that banks are well positioned in the event that non-performing loans pick up from their very low levels in the period ahead. Non-bank lending has been very strong, and it is important that lending standards remain prudent. Banks and non-banks continue to have ready access to wholesale funding.
Key risks to financial systems
1. Financial conditions could tighten further, leading to disorderly declines in asset prices and disruptions to financial system functioning
2. As debt-servicing challenges increase, a turn in the credit cycle is likely; a sharp increase in unemployment would magnify these challenges
3. Threats from outside the financial system – including cyber-attacks, geopolitical tensions and climate change – continue to pose risks to financial stability
Via a Sunburnt Country
From The TradersCommunity News Desk