Could a banking crisis happen in Australia?

Two regional US banks have collapsed, while a third has been propped up by a conglomerate of larger banks. Meanwhile, global financial institution Credit Suisse has just been bought out by fellow Swiss rival UBS. Is it possible Australia’s banks will be next?

It’s unlikely. Australia’s banking landscape is not facing the same risks of catastrophe or contagion that has plagued lenders like Silicon Valley Bank, Signature Bank and First Republic Bank in the United States.

Why? Australia’s banks are well capitalised. Contrarily, the US banking sector is in stress because a number of regional banks struggled to meet liquidity demands as the value of long-term bond investments sank on the back of rising interest rates.

For example, on March 8 Silicon Valley Bank announced a $1.8 billion loss on its bond portfolio and its intention to raise $2.25 billion in capital through the sale of common and preferred stock. The bank was subsequently downgraded by ratings agency Moody’s.

The Department of Financial Protection and Innovation of the State of California reported that, “Despite the bank being in sound financial condition prior to March 9, 2023, investors and depositors reacted by initiating withdrawals of $42 billion in deposits from the bank.” 

This run on a bank was widely publicised, sparking fear among US depositors and increasing the likelihood of contagion. Within a few days US President Joe Biden delivered a special address, attempting to reassure Americans that the banking system was safe.

He stressed that no losses would be borne by the taxpayers and insisted protections would come from fees paid into the Deposit Insurance Fund (DIF), managed by the Federal Deposit Insurance Corporation (FDIC). 

How Australia’s banking system differs

Australian banks investment strategies are more typically skewed towards mortgages. Australian banks’ holdings of tradable securities is around 5%, while similar economies have allocations nearer 20%, according to the Reserve Bank of Australia (RBA).

In a speech in Sydney today, RBA assistant governor Christopher Kent asserted that, although volatility in Australian financial markets had increased, Aussie banks were functioning well and remain in a healthy financial position.

“Most importantly, Australian banks are unquestionably strong - the banks’ capital and liquidity positions are well above APRA’s regulatory requirements,” he said.

“Banks are already well advanced on their bond issuance plans for the year and could defer their bond issuance for a while. Even if markets remain strained for a time, Australian banks’ issuance will continue to benefit from the strength of their balance sheets.”

In the latest Financial Stability Review from October 2022, the RBA noted that despite increasing interest rates, heightened inflation and downgraded growth forecasts, Australia’s financial institutions were in a proportionately comfortable position.

“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,” the RBA report said.

This means that if Aussie banks did face a run on deposits, their generous capital buffers, strong liquidity position and record profits windfall would seemingly provide adequate protection.

While Australia may not be as exposed as other economies to the pitfalls of a run on banks, the sweeping financial crisis is a timely reminder that the global banking system has serious flaws and inadequate regulation.

Additionally, the healthy profit margins accrued by Australia’s big four banks may be tested by intense competition for deposits. More and more Australians are shopping around for higher savings interest rates, better investment opportunities, introductory and bonus offers, as well as unique product features.

Banks resilient but borrowers doing it tough

The Council of Financial Regulators - which consists of the RBA, Australian Prudential Regulation Authority (APRA), Australian Securities and Investments Commission (ASIC) and the federal Treasury - released a statement last week highlighting the banks’ strong fiscal position and announcing that it would be paying close attention to ongoing local market risks, such as growing mortgage stress among households battling the sudden rise in interest rates. 

“APRA, in consultation with CFR agencies, will continue to closely monitor the situation through its intensive supervision of the Australian banking system, which remains strongly capitalised and highly liquid,” the Council said.

“In the period ahead, a large share of fixed-rate borrowers will experience a significant increase to their loan repayments as they reset at higher interest rates. Many of these households have accumulated material savings buffers ahead of this transition, but some are better prepared than others to withstand higher borrowing costs.”

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