RBNZ Publishes Financial Stability Report for May 2020

Although RBNZ has eased some prudential requirements, the profitability of banks will be affected by rising non-performing loans in the downturn. Appendix 1 to the report outlines economic and financial policy responses to the challenges posed by COVID-19 pandemic. While there remains considerable uncertainty about the economic outlook, stress tests conducted by RBNZ suggest that banks can withstand a broad range of adverse economic scenarios while retaining sufficient capital to continue lending. RBNZ is undertaking stress test exercises to assess resilience of the banking system if the economic downturn becomes very prolonged. The two scenarios developed to test the banking system have similar economic projections to the Treasury’s COVID-19 scenarios 2 and 5 during the peak of the recession in the first 18 months. In the subsequent recovery phase, as the virus worldwide is brought under control, the bank stress test scenarios assume a protracted global slowdown and a slower recovery for the New Zealand economy than the Treasury’s scenarios. Both scenarios are significantly more adverse than the scenarios published in the May 2020 Monetary Policy Statement.

Results from the RBNZ modeling indicate that banks can maintain capital above their minimum capital ratios in the Baseline Stress scenario. Banks are projected to fall into their capital conservation buffers, meaning they would be meeting their regulatory requirements but also required to develop plans to repair their capital positions over time. Preliminary results from the Very Severe scenario illustrate that there are limits to the economic shocks that banks in New Zealand would be able to withstand with their current capital positions. In this scenario, the RBNZ modeling shows that banks would likely fall below several of their minimum regulatory capital requirements. In this situation, banks would have to undertake significant recovery responses such as raising new capital from shareholders to avoid resolution options. Some of the economic scenarios produced by the Treasury in April are significantly more severe than the scenarios RBNZ is assessing, in terms of the level of unemployment and decrease in economic activity. Under these more extreme (and less likely) scenarios, additional capital and other mitigating actions would be required to avoid widespread failure in the banking system.

Related Links

• Press Release
• Report and Related Information

Keywords: Asia Pacific, Banking, Insurance, COVID-19, Basel, Credit Risk, Liquidity Risk, Stress Testing, Regulatory Capital, Financial Stability Report, RBNZ