APRA Proposes to Update Prudential Standard on Credit Risk Management
The Australian Prudential Regulation Authority (APRA) published an information paper that sets out its framework for the use of macro-prudential policy measures. The paper covers the risk factors APRA uses to identify emerging threats to financial stability, the policy tools APRA can choose from, and the importance of consulting with other members of the Council of Financial Regulators as part of the decision-making process. To support the implementation of the framework, APRA is consulting on steps to formalize and embed credit-based macro-prudential policy measures within its prudential standards. As part of this, APRA issued a letter proposing a new Attachment C (titled "Macroprudential policy: credit measures") to APS 220 (the prudential standard on credit risk management), along with the associated draft revisions to ARS 223, which is the reporting standard on residential mortgage lending. Annex A to the letter contains a draft of the proposed amendments, which include a set of credit-based macro-prudential measures. The consultation on APS 220 ends on February 28, 2022.
The proposal would require banks to ensure that they have the ability to limit growth in particular forms of lending as well as to moderate higher risk lending during periods of heightened systemic risk, or meet particular lending standards, at levels determined by APRA. The proposal would also require banks to ensure they have adequate reporting in place to monitor against limits. The proposed attachment to APS 220 includes two main types of credit-based macro-prudential measures:
- Lending limits: The proposed attachment to APS 220 sets out the most likely types of higher risk lending that may need to be constrained and for which the authorized deposit taking institution must have controls and reporting in place, ex ante. The specific calibration and start date for any limit would be advised by APRA at the time, taking into account the risk outlook.
- Lending standards: APRA may also set minimum requirements for lending standards. These would be applied at the individual loan level and include measures such as the serviceability buffer for residential mortgages. Under the proposed attachment to APS 220, the serviceability buffer for residential mortgages will initially be set to at least 3.0%. This would replace the existing guidance in APG 223, which is the Prudential Practice Guide on residential mortgage lending.
Once the attachment for APS 220 has been implemented, any decision by APRA to implement temporary limits for particular forms of lending or to set minimum requirements for lending standards would be publicly communicated. APRA would notify about any limits for the specified loan types ahead of the date from which they would apply. APRA also intends to review the loan types specified in the attachment to APS 220 on a regular basis and may revise or add to the set of options, subject to further consultation with industry. As part of the consultation, APRA also requests specific feedback on any implementation issues that could arise from using the definitions of higher-risk loans, as set out in the draft attachment.
To improve the effectiveness of future macro-prudential policy response, APRA is proposing a small change to the reporting definition of borrower income for the purposes of calculating debt-to-income and loan-to-income ratios, under ARS 223, the reporting standard on residential mortgage lending. Proposed amendments to ARS 223 can be found in Annex B to the consultation letter. These proposed changes would ensure alignment with the new attachment on APS 220. Once the new attachment to APS 220 has been finalized, APRA will consider whether other changes to reporting standards are appropriate. From January 01, 2022, authorized deposit-taking institutions will be required to meet the previously finalized requirements of APS 220, including Attachment A on collateral valuation and Attachment B on prescribed provisioning. APRA expects to finalize its response to the consultation on the new Attachment C on credit-based macro-prudential measures in the first half of 2022; these new requirements would come into effect shortly thereafter.
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Comment Due Date: February 28, 2022
Keywords: Asia Pacific, Australia, Banking, Credit Risk, APS 220, Lending, Reporting, Residential Mortgage Lending, ARS 223, Macro-Prudential Policy, RRE, APRA
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