The Reserve Bank is urging major banks to use their buffers to keep lending to support business and developers following the largest economic contraction since World War II.
The Financial Stability Review showed banks’ share-to-price book ratios have recovered from March but they are still below pre-pandemic levels “reflecting a decline in the earnings outlook and a reduction in investors’ risk appetite”.
Although banks may want to maintain capital buffers, reducing credit would have a significant impact on the economy according to the RBA.
According to stress test simulations in the report showed banks have sensitivity to falls in GDP, property prices and unemployment.
Despite this uncertainty, housing finance grew 12.6 per cent in August off the back of government stimulus packages.
However, there were still risks associated with commercial real estate with conditions deteriorating in retail and the once tight office sector according to the RBA.
“The Australian banking system entered the pandemic with a much stronger capital position than in previous downturns,” the RBA review said.
“This balance sheet strength has enabled banks to absorb shocks, rather than amplify them as they did in the GFC.
“Banks have continued to lend, including enabling businesses to draw down lines of credit as a precaution early in the crisis.
“They do, however, face the prospect of sharp rises in borrower defaults.”
The review recognised some banks may be unwilling to eat into buffers due to facing automatic restrictions on earning distributions and acquiring lower capital ratios which could limit access or increase cost of funding.
Banks also want to avoiding regulatory repercussions as a way of reducing their own risks and protecting themselves.
“If banks were to cease lending in an attempt to conserve their capital buffers, the reduction in credit availability would have a significant contractionary impact on the economy,” the RBA said.
“By amplifying the downturn, this contraction in credit supply would ultimately be detrimental to the banking system.”