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    RBNZ Publishes Financial Stability Report in November 2019

    November 27, 2019

    RBNZ published the Financial Stability Report, which outlines the ways in which RBNZ plans to address the current and upcoming financial system vulnerabilities. The report highlights that financial system vulnerabilities remain elevated and more effort is required to ensure that the system remains resilient over the longer-term. The ongoing and planned work is expected to address issues related to the capital adequacy of banks and insurers, culture and conduct risks, cyber risks, and climate-change risks.

    The report highlights that banks hold sufficient capital to withstand a range of economic risks. However, their viability may be threatened if very severe events were to occur. Bank failures can cause very large economic and social costs. Therefore, to improve resilience, RBNZ has proposed increasing capital requirements for banks, with final decisions on the Capital Review proposals due to be announced soon.” Under the proposed changes, RNZ believes banks would be able to withstand the kind of event that occurs about once every 200 years. RBNZ is also working to implement its climate change strategy and to develop its in-house capacity to roll out an expanded supervisory program for the financial system in 2020. 

    The RBNZ Governor noted that the Loan-to-Value Ratio (LVR) restrictions imposed by RBNZ have been successful in reducing the more excessive household mortgage lending, thus improving the resilience of banks to a significant deterioration in economic conditions. However, there remains the risk that prolonged low interest rates could lead to a resurgence in higher-risk lending. Therefore, RBNZ has decided to leave the LVR restrictions at current levels. In addition, recent reviews of the culture and conduct of banks and life insurers have found weaknesses in processes for managing conduct risks. Further risk management weaknesses have been revealed by a number of banks recently disclosing errors in their calculation of key regulatory requirements. RBNZ expects institutions to improve their own assurance processes and controls and will work with the institutions to ensure this happens. RBNZ also plans to increase the intensity of supervision, with greater scrutiny of compliance by institutions.

    A supplement to the report highlights that RBNZ is aware that the frequency and severity of cyber-security incidents are on the rise in New Zealand and abroad. While RBNZ continues to see close alignment between public and private interests on cyber risks, it also recognizes that a combination of promoting information-sharing and developing principle-based guidance is likely to enhance cyber resilience in the New Zealand financial system. RBNZ is expected to consult on a related risk management guidance in the first of half of 2020. In developing risk management guidance, RBNZ would draw from a range of international practices, tailored to New Zealand circumstances, and in consultation with the industry and other stakeholders. 

    In the insurance sector, RBNZ sets minimum solvency requirements for insurers, requiring insurers to maintain sufficient capital and reinsurance coverage to ensure they can meet their future obligations to policyholders with a high degree of certainty. Solvency ratios have declined for many general and life insurers, leaving a low buffer over minimum requirements. Recent sharp falls in long-term interest rates are putting further pressure on some life insurers. Changes in long-term interest rates can affect the value of assets and liabilities of insurers and low interest rates can also affect profitability by reducing investment returns. Affected insurers are preparing plans to improve their solvency and RBNZ has increased supervisory engagement with these firms. Furthermore, insurer solvency requirements will be reviewed alongside an upcoming review of the Insurance (Prudential Supervision) Act.

     

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    Keywords: Asia Pacific, New Zealand, Banking, Insurance, Capital Adequacy, LVR Restrictions, Cyber Risk, Climate Change Risks, Operational Risk, RBNZ

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