Reserve Bank of New Zealand Bank Capital Review Consultation Submissions

Jesse Reynolds I agree strongly with this proposal. As a tax payer I do not want to carry the risk of having bail out the banks as was seen in the USA after the 2008 recession. I believe it is very likely there will be more financial crises in the future and this seems like a very reasonable measure. Raising the capital seems achievable as the banks operating in New Zealand are highly profitable. Any effect on lending seems well worth having a more robust banking system. OIA s9(2)(a)

John Halkett Hello I am fully in support of increasing the capital requirements of banks. This is largely from a purely personal point of view. I am a retiree and have significant funds (mostly term deposits) invested with at least one of the 4 major banks. At the moment the returns are quite frankly awful and the RBNZ seems to prioritize borrowers and a rapidly rising housing market ahead of savers. I take absolutely no comfort from the OBR (Open bank resolution) system. To me this is a sham designed to further penalise savers at the expense of risk taking borrowers. Why is NZ the only OECD country not to have a Deposit Guarantee system in place? Also some time ago the IMF produced a report on the RBNZ. That report pointed out, if I recall correctly 13 failures to meet acceptable oversight standards. I hope these have been addressed. For the above reasons I believe it essential to increase bank's capital requirements. Based on the huge profits that the 4 major banks send back to shareholders in Australia I doubt this would have a significant effect. Thank you for the opportunity to make a submission. OIA s9(2)(a)

John McClelland I am of the belief that it is prudent to increase the capital adequacy ratio for all institutions that hold banking licences in this country. However I am of the opinion that the period to introduce the proposed increase is too short and should be extended to 8-10 years with gradual milestones increases legilisated every 2-3 years i.e. 2019 12% , 2022 14% , 2024 16% etc. OIA s9(2)(a)

John Oliver I think increasing bank capital would be unnecessary if the procedure for dealing with banks that get into trouble (ie the haircut for depositors) was replaced with them being compensated with shares in the bank in return for their loss. If this was done there would be no need to make banks ultra safe as depositors would be protected by becoming owners in the event of a bank failure. The current procedure for dealing with bank failures appears to be unfair as it could impose a haircut on depositors while allowing shareholders to remain 100% owners of a bank rescued at a cost to others. OIA s9(2)(a)

John powell Yes the banks should be required to increase their capital requirements. There should be a preference for it to be obtained from Nader. Please be aware it is about time that all depositors eg term deposits must pay nz tax otherwise simply not fair to nz taxpayers who would otherwise be taxed less on their investment still not tax free as is capital gains yet what are the deposits spent on by the banks? It is also high time nzders should have access to say govt / taxpayer super fund to invest in infrastructure at a better rate than term deposits, it would also demonstrate that less foreign investment needed with all their tax minimisation schemes compared to investing by nz citizens Wish you would stop telling untruths about inflation and relate it to the true cost for nz living costs. Please also provide simple to read and understand rules around banks going broke and what would happen to depositors. Foreigners affected should get nothing back. There should be much tougher rules around banks expensing things, start treating them like you do payee earners ie very few expenses allowed. It would make them more productive and perhaps contribute to a better health , education and infrastructure ie enable them to be better citizens. OIA s9(2)(a)

Jon McClane Thank you for the opportunity to provide comment on the consultation. The capital consultation in it’s current form is a mixture of the good, bad and ugly. Firstly the 5yr transition will impact the average consumer. A 10yr period would provide ample time for the banks to organically generate capital without impacting the economy. Secondly with the introduction of the Quarterly bank dashboards in 2018 the comparability of irb and standardised banks is non existent. Risk weighting across all banks should be on the basis - standardised. In addition this would support competition in the banking sector. Thirdly increasing capital on banks doesn’t reduce the moral hazard. If govt entities (e.g. super fund) are entering into credit default swaps with banks (reducing bank rwa) the risk is already been transferred to the govt. Fourthly the ability to invest in bank bonds will be constrained. Retail investors are unlikely to have direct access to invest in high yielding at1 instruments. And the senior unsecured market will be diminished as it will also be constrained by the pending change to residential mortgage bonds. Whilst bank bonds are constrained the Corporate bond market will see rapid expansion as banks reduced committed line exposure. OIA s9(2)(a)

Jonathan Vodanovich I support the proposal in its current form. Australian banks ought to be required to meet the same banking criteria as other/New Zealand banks, including capital adequacy. This step would make the current banking system safer and fairer. Although there will probably be added pressure applied to borrowers, the deposits gained by higher term rates will attract many who had moved their money elsewhere for a higher (but riskier) return back to traditional banks. In terms of supporting savers, this would be a positive step, and would encourage people to save for their retirement, and potentially ease the future burden on the state in this area. OIA s9(2)(a)

From: Judd de la Roche To: Capital Review Subject: Re proposal for increased level of bank reserves Date: Wednesday, 3 April 2019 8:37:12 PM Hi, Thank you for the opportunity to comment. I feel that any moves that may slow the economy risk a more severe slow down than anticipated due to several factors. The real estate cycle is reaching a natural plateau and with that confidence is curtailed. Also, the introduction of, or the even the talk of new policy such as capital gains tax and new employer responsibility for domestic violence of employees, are all going to impact hard on confidence in the economy. Already I hear of buyers having increasing difficulty getting finance and brokers tell me of huge difficulty in securing loans for deals. I understand the need for reserves to protect against international financial shocks, but on a street level, the damage to productivity could be more than most expect. I feel reserves need to be increased slowly to a level the RB feels prudent and banks need to be encouraged to lend on deals that traditionally they would back. I see signs of an economic slow down everywhere in DUNEDIN, in both retail and general confidence and soon in real estate which we may be seeing the start of right now. DUNEDIN has been very strong also, so other parts are likely to be more advanced in the downward cycle of business activity. Thank you Regards Judd Judd de la Roche AREINZ Business Owner Living Corporation Limited MREINZ REA 2008

Kay Robertson I fully support this proposal. I am a regular person with a financial background and interested in economic matters and the stability of the banking and monetary systems. I think this proposal is good because:

1. It will level the playing field between the big 4 Australian banks and the rest of the banks (largely NZ owned). The fact that the big 4 currently have lower capital requirements gives them a competitive advantage that should be ended.
2. The big 4 banks pose the greatest threat to the stability of the financial system as each is probably ‘too big to fail’, therefore they need to hold a bigger capital buffer (than they currently do) to help safe-guard the system in case one of them gets into trouble.
3. Many reformers (Adair Turner for example) are calling for greater capital requirements in the wake of the GFC as one of the best ways to ensure more prudential credit creation.
4. Arguably the big 4 banks have been allowed to create too much credit in the past and this has contributed to the large gains in house values, making housing unaffordable and leading to greater social pressures (rising inequality, homelessness, stress from large mortgages). A larger capital requirement would restrain this in the future.
5. As the discussion document referenced, this proposal may benefit from the M & M offset leading to a reduction in interest rates (rather than an increase as predicted by banking sector lobbyists). It should increase confidence in the integrity of the financial system. Fitch has recently indicated that this proposal wouldn’t adversely affect bank credit ratings.
6. It is quite likely that this proposal will result in reducing the systemic risk to the economy at a very reasonable cost. It will help us to avoid the kind of economic trauma experienced in the northern hemisphere a decade ago - which they still haven’t fully recovered from. Given the enormous costs to society as a whole and the damage to individuals, families and communities when these events occur, we should learn from the horrible experience of others and take steps to shore up the integrity of our financial sector. I could probably think up more, but that’ll do. You get the drift. As for the big 4’s claims that interest rates will go up, we’ll they would say that wouldn’t they? Now - we just need reforms (monetary and fiscal) to direct more credit toward the productive sector of the economy and less toward the investment (speculation) in pre-existing housing stock. (See suggestion below) Going off topic, I don’t like the OBR, but neither do I like deposit insurance. If a bank gets into trouble, I would say nationalise it as was done with Air New Zealand. Or let it fail and use the reserves to create a new public bank and bring the depositors/creditors over. You might perhaps get the idea I prefer public banks… Again off topic, house prices are dropping in Oz and stalling here. We need to have a plan (and I presume you do have one) for the possibility of many people being underwater in their mortgages & farm loans. The Farm Debt Mediation Bill is a start, but RBNZ hopefully has a back-up plan for if the tutae really hits the fan - and please no TARPS or British/Greece austerity. Let’s learn from the mistakes of others. OIA s9(2)(a)

More off topic, we need to question the inflation targets. The world’s central banks have been trying to generate inflation and instead have been generating asset bubbles and distorting risk/return ratios and damaging low-risk savers returns. We are now in a global slow-growth phase - accept it. Technology and offshore production drives down the cost of goods and the demographics of an ageing population reduces demand and consumption of most things (except hip replacements and hearing aids). Finally (really) I would like to see a ‘People’s Superfund’ that we could put our Kiwisaver and discretionary funds into that would be managed alongside the current Superfund, fees at cost, offering global diversification but also a source of funds for our capital starved companies that go into foreign ownership because the NZ capital markets don’t function properly - and I don’t have confidence in yet another Capital Market Task Force. They will propose private solutions when we already have a public model that has a proven outstanding track record. Kiwis predominantly invest in term deposits and property because they either don’t understand or trust the alternatives. The idea that dentists, painters or teachers can properly invest their nest-egg in the private financial sector is absurd and they know it. They only do it with Kiwisaver because they have to in that case. They’ve been burned enough times to be wary. I wouldn’t try to read a book and do my own root canal; why do we think a dentist can effectively navigate the financial markets? Simplicity is good, but they basically buy Vanguard Index Funds (though a small amount of their Growth Fund will now go toward Kiwi venture capital-yeah!) Let’s create an intermediary Kiwis can trust where part of their investment funds are directed towards both our innovative companies and infrastructure projects that will produce a good revenue stream (like toll roads) or the new green infrastructure we need to build to transition to a zero carbon society (solar/windmills). The money is there, it’s just going into the wrong area currently. I really like this new RBNZ (and what the FMA and Kris Faafois are doing). Keep up the good work!

Submission on the proposal to increase bank capital Dear Sir / Madam Thank you for the opportunity to comment on the proposal to increase bank capital requirements. I have 25 years’ experience in the financial services sector, chiefly in funds management. The last time I commented on bank capital was in a 2003 letter to the then Minster of Finance. In the letter I reminded the Minister that the Reserve Bank Governor had more than one instrument (the interest rate) at its disposal, which was a lament in the December 2003 RBNZ Monetary Policy Statement in the face of rising house prices. I am pleased to say that since then a focus on permanent and cyclical capital requirements has become widely accepted. The views below are my own, not those of my employer.  Bank capital ratios are low compared to other industries because of expected (implicit or explicit) government support in a crisis. Even so, New Zealand banks’ current Tier 1 capital ratios are low by international standards (refer figure 5, “Safer banks for greater wellbeing”, RBNZ, February 2019).  The New Zealand economy is a small concentrated economy particularly exposed to tourism, farming and the housing market, with relatively large net foreign debt. Unlike countries such as the United States or Germany, in a major crisis the New Zealand government may be constrained through higher borrowing costs to raise capital to rescue banks. This argues for capital ratios at the higher end of the international range.  Higher capital requirements will make the NZ financial sector and economy more resilient to shocks which will provide long-term economic and societal benefits.  The cost-benefit trade-off is between I) higher bank capital, slower growth between crises but with shallower downturns and less long-term negative effects on the economy and society and II) lower bank capital, higher growth between crises but with deeper downturns and longer-lasting negative effects on the economy and society.  Estimating the ‘optimal’ ratio where any further increase in the ratio from the optimal level results in the costs outweighing the benefits is subject to much uncertainty. Using data from a 2017 literature survey of 17 independent estimates of ‘optimal’ capital ratios, shows a bottom quartile optimal ratio of 10%, a median optimal ratio of 13% and an upper quartile optimal ratio of 19%. The proposal to raise capital to 15-16% does not look extreme in this context (refer https://piie.com/publications/bookstore/data/7212.zip).  Higher capital will raise bank funding costs because equity funding is more expensive than debt, but the impact should be modest as greater resilience to shocks will lower the cost of debt and equity for the banking sector.  Higher capital should result in bank share prices exhibiting lower volatility (lower beta) and investors’ required return on equity should be commensurably lower. In an efficient market, shareholders with high return on equity requirements will be replaced by shareholders with lower risk and return requirements. It is worth noting that low volatility stocks are in high demand globally. Alternatively, bank shareholders wishing to maintain high return on equity can leverage their investments.  A minimum leverage ratio requirement should be part of the capital framework. A simple leverage ratio appears to perform better than a risk-weighted capital ratio in predicting failure for complex banks (refer “The Dog and the Frisbee”, Andy Haldane 2012, https://www.bis.org/review/r120905a.pdf).  A higher minimum leverage ratio than the currently proposed 3% for standardised banks and 4% for IRB banks is consistent with the increase proposed for the Tier 1 capital ratio.

 It is logical to have the option to set the countercyclical capital buffer to zero in the exceptional circumstances following a crisis. Otherwise the minimum countercyclical capital buffer level should just be folded into the conservation buffer.  To reduce complexity and uncertainty, narrowing the difference in capital outcomes between the IRB and Standardised approaches to credit risk makes sense. Keith Poore 3 May 2019

Kiwibank Limited Private Bag 39888 Wellington 5045 New Zealand www.kiwibank.co.nz 17 May 2019 Ian Woolford Manager, Financial Policy Financial System Policy and Analysis Department Reserve Bank of New Zealand PO Box 2498 Wellington 6140 By email: CapitalReview@rbnz.govt.nz Dear Ian, Submission: Bank Capital Review Paper 4: How Much Capital is Enough? We welcome the opportunity to submit on the above Consultation Paper. Our responses to the questions posed in the Consultation Paper are set out in the attached addendum. Kiwibank acknowledges the Reserve Bank’s desire to increase the stability of the New Zealand financial system. However, any final policy decisions need to reflect the fact that the New Zealand banking industry is stable, even through stress tested modelling. Undertaking stress modelling to show when the current levels of capital would be inadequate would be a useful precursor to a full cost/benefit analysis of the proposed framework. Any proposed changes should ensure that there are no undue advantages to particular parts of the industry. For us, this means removing all modelling advantages for homogenous portfolios, allowing smaller banks a longer transition period, and providing access to market friendly hybrid instruments. To adopt the proposals in the Consultation Paper and the in-principle decisions made to date in the Review would result in a widening, not lessening, of the regulatory advantages enjoyed by the Australian banks. Our key perspectives are as follows:

1. Our primary reservation is that the proposed changes continue to place the New Zealand owned banks at a regulatory disadvantage. While we acknowledge that the reduction of the differential between Standardised Banks and Internal Model Banks (IRB) is a positive move, the overall package of changes will continue to see the New Zealand owned banks remain at a disadvantage both in terms of the options to meet the new requirements as well as the levels of capital required to be held against like exposures. We do not believe that this outcome benefits New Zealand as a whole.
2. New Zealand owned banks would find it difficult to issue hybrid capital in the form proposed by the Reserve Bank. Perpetual preference shares, without issuer call features, would be prohibitively costly to issue into the New Zealand market. This is not the case for Australian owned banks who can utilise intra-group structures to issue both CET1 capital and eligible hybrid instruments. Kiwibank is therefore not supportive of the Reserve Bank’s objectives to increase capital where hybrid capital cannot be utilised to meet a similar proportion of Tier 1 capital requirements as is currently allowed. In the body of our submission we make recommendations as to how the Reserve Bank could allow more market friendly hybrid instruments without compromising its desire for high quality capital instruments and avoiding the situation where the regulator may feel pressured to allow the redemption of a hybrid instrument.

2 3. In terms of the ability to generate capital to meet the higher requirements, the D-SIBs enjoy advantages in terms of profitability, economies of scale and group structures that essentially allow them to transfer capital across borders with little impact on their home regulations. Therefore, a longer transition period will be critical if the non-D-SIBS are to continue to compete effectively and avoid further industry consolidation while building up capital levels and making the required substantial technology investments to remain competitively relevant. We suggest an 8-year transition period for non-D-SIBs is required to meet the proposed capital levels. We see this as critical to achieving the goal of stronger New Zealand banking sector. 4. The Reserve Bank will be aware that Kiwibank has a significant investment profile/requirement over the next 3-5 years which coincides with the targeted implementation of the capital changes. On the current outlook the short to medium term returns to shareholders appear low and below any reasonable estimation of the cost of capital. Kiwibank’s shareholders have many opportunities to invest their capital and overriding investment mandates to pursue them. This creates a substantial risk for Kiwibank that its shareholders may be unwilling to contribute further capital due to a regulatory environment more favourable to Australian banks than New Zealand-owned ones. Our contingency modelling suggests that if our shareholders find further investment is not supportable, then Kiwibank would be required to make credit rationing and pricing decisions that would be detrimental to our ability to serve New Zealanders and would weaken competition. 5. We consider that there should be no difference in the risk weighted asset outcomes between IRB banks and Standardised banks in relation to homogenous portfolios such as mortgages. For this reason, we recommend that the continued advantages proposed to be bestowed on IRB banks by the proposals be removed and replaced with the standardised methodology incorporating the changes proposed by the Basel Committee and proposed by APRA. We note that such a move would be a simplifying factor that delivers the Reserve Bank’s goals of transparency and accountability. 6. The Reserve Bank’s proposed 1% capital add-on for D-SIBs appears mis-calibrated in that it allows the largest banks to hold less capital as a proportion of Standardised RWA than a smaller bank for like exposures. This seems contrary to the intent of the Capital review. We encourage the Reserve Bank to consider a more tiered structure of capital levels for banks of differing sizes. The current proposals do not sufficiently differentiate capital levels according to size. Kiwibank is also party to separate submissions prepared by both the smaller New Zealand-owned banks and the New Zealand Bankers Association. This submission represents Kiwibank’s view to the extent there are any points of difference between it and those submissions. I would welcome the opportunity to discuss our response with the Reserve Bank in more detail. Please contac or email f you require any further information. Kiwibank consents to the publication of this submission. Yours faithfully Steve Jurkovich Chief Executive cc: Anthony Schutzenhofer, RBNZ

3 Response to Questions: We respond to specific questions in the Consultation Paper as follows: Proposed Tier 1 capital requirement of 15% to 16% (including the proposed prudential buffer of 9 to 10%): • What would be the impact of this increase in capital requirements on borrowing costs • What would be the likely benefits and costs of higher capital requirements for NZ’s economy? Kiwibank agrees that the proposed levels of bank capital will reduce the likelihood and cost of a banking crisis. The impact of the proposals on customer borrowing costs will depend on a number of factors and assumptions including – competitor responses, the extent to which some of the costs are passed through to savers through lower deposit rates, shareholder expectations of returns on their investment and bank appetite for increased exposure to select sectors (and New Zealand as a whole). It is distinctly possible that higher capital requirements will impose more cost upon the economy, and it is our observation that the Reserve Bank’s estimation of a 20-40bps increase in borrowing costs falls within the lower end of our range of estimations if the cost is solely applied to loan balances. If the costs are spread over loans and deposits, then the estimation appears to be a reasonable prediction. But this is essentially asking deposit customers to subsidise the higher capital costs required in relation to lending. We also note that this is a simplified estimation as in practice we would expect higher risk weighted lending to be significantly more impacted than lower risk weighted classes. The most negatively impacted asset classes would include rural and small businesses, which form the backbone of the New Zealand economy. Regarding the impact upon bank funding costs from holding higher levels of capital, we do not agree that the proposals would in practice lead to materially lower funding costs. Our modelling, and public statements from credit rating agencies state that improvements to bank credit ratings are unlikely. Hence if credit ratings do not change it is difficult to foresee any material improvement in funding costs. The Australian bank subsidiaries will not see an increase in their ratings, as their ratings are normalised to those of their parents. Further, we note that in recent years our CET1 has increased from ~9% to ~13% without any discernible change to the credit spreads on our term wholesale debt from changes in market spreads generally. As noted previously, the proposals create a significant capital requirement for banks. Shareholders have finite capital to invest and multiple opportunities to invest it. Therefore, banks will need to boost or at least sustain their profitability/return on capital to justify this increase in investment. With New Zealand’s banking sector being largely foreign owned, these additional profits will be sent offshore – an ongoing cost to the economy. Proposed additional capital requirement for banks that may be deemed “systemically important” in NZ (D-SIBs) • Should banks identified as D-SIBs be subject to higher capital requirements than other banks? • If so, what factors should a framework consider in identifying such banks, and what would be the appropriate size of any additional capital requirement? Consistent with the Basel Committee’s proposals, it is rational to require that the level of capital held by a bank is reflective of the risks inherent in both its activities/assets as well as the impact to the economy from that bank’s failure. We agree that banks that are systemically important to the New Zealand economy ought to hold more capital compared to those that are not. When just four banks represent 88% of the system’s RWA the calibration of the D-SIB capital add-on is critical to the protection of the economy, taxpayers and other banks.

5 Proposed Countercyclical Capital Buffer (CCyB) and in particular: • Should there be an option to set the CCyB to zero in the exceptional circumstances following a crisis? • Is 1.5% an appropriate calibration for the “early set” component of the CCyB? Kiwibank supports this component of the proposals. The amount of the prudential buffer that ought to be considered “early set” should be determined by where the Reserve Bank sees the current conditions in terms of the credit cycle and the amount of capital that might be lost during a crisis. We note that during a severe crisis stress modelling suggests banks typically lose 300-400bps of capital. Our internal modelling supports that peak to trough assessment. We suggest that on this basis, and our assessment of the current point in the credit cycle, the Reserve Bank might consider 2.5% of the proposed Prudential Buffers to be “early set” CCyB. While it has now been 10 years since the GFC, interest rates have yet to re-trace to pre-GFC levels and there is greater appreciation that interest rates will stay much lower for longer than historically accepted. Given this reduces the Reserve Bank’s ability to stimulate the economy through reduced interest rates we believe that a more active use of a larger CCyB gives the Reserve Bank another potential tool to use. While there is a lack of actual global evidence around the effectiveness of counter-cyclical buffers in practice, we believe the move to higher capital ratios gives the Reserve Bank the opportunity to put in place a larger CCyB than that proposed (an increase in the CCyB to 2.5% offset by reducing the increase in the conservation buffer to 6.5%). This would give the Reserve Bank another tool to help banks encourage credit growth in a recession when they might otherwise be concerned about the track of future capital ratios. We note that since the adoption of Basel III the CCyB has been an unused part of the Reserve Bank’s macro-prudential toolkit (with no previous public discussion of using it either) despite high private sector credit growth that caused S&P to increase its risk assessment of New Zealand in both 2015 and 2016. It is our view that it would be useful for the banking sector if the Reserve Bank established a transparent metric that would prompt explicit consideration of increasing or decreasing the CCyB. We note that APRA already communicates on the indicators it assesses around deploying the CCyB. Role of Tier 2 Capital: • What are the advantages and disadvantages of having Tier 2 capital requirements? • Is there continuing value in setting a specific requirement for Tier 2 capital, if the Tier 1 capital requirement is set to 15 or 16%? With a 15-16% Tier 1 requirement we see no practical value in retaining Tier 2 capital. It will simply become expensive funding creating a potential further cost to be passed on to customers without any likelihood of being called upon in a stress event. Only in the event that the Reserve Bank materially lower the Tier 1 capital requirements, would Kiwibank then consider Tier 2 capital of having a role. Proposed consequences for banks (e.g. dividend restrictions) that breach the prudential capital buffer and the concept of an “Escalating Regulatory Response”. We are comfortable with the concept of an escalating regulatory response framework as described in the Consultation Paper.

6 Leverage ratio: • Do you agree that minimum leverage ratio requirements should be part of the capital framework? • Do you agree that leverage ratio disclosure requirements should be part of the capital framework? • Do you agree with the proposed minimum leverage ratio calibration for Standardised and IRB banks? The introduction of a leverage ratio into the capital framework is not required for the following reasons: • The proposed capital requirements will substantially lower leverage ratios and make the need to monitor them less relevant. Compounding the capital requirements, New Zealand’s Standardised risk weights are high by international standards and as such the leverage ratio provides less insight than it might have in jurisdictions where risk weights are commonly lower; • Including leverage ratios as a disclosure requirement may imply to readers that the ratios have an information content that we do not believe they have (for the reasons above). We note that the information required to calculate them is already readily available in banks’ Disclosure Statements should people wish to do so; • For the leverage ratio to become a constraining factor under the Reserve Bank’s proposed capital requirements, a bank’s assets would need to have an average risk weight of approximately 20%. Accordingly, it is highly unlikely that the minima would become a constraint in practice. Feedback on the proposed transition period provided to banks to meet the proposed capital requirements and the benefits and costs associated with a shorter or longer transition period. The RBNZ’s proposed 5-year transition period appears achievable for the D-SIB banks which have substantially higher profitability, the ability to generate both CET1 and AT1 capital via intra-group structures and benefit from economies of scale when making IT investments (which are taken as a deduction from capital). For the smaller New Zealand-owned banks, the 5-year period is a genuine and material challenge as they do not have these advantages. Kiwibank is undertaking (and we understand at least one other small bank is due to undertake) a core system replacement during this period. For a small bank, these projects can consume 2 to 3 years’ capital generation. This investment is necessary to ensure the ongoing stability of a growing business and the ability to compete in a technology driven environment. However, overlaying higher capital requirements at the same time as such an investment places creates a reliance on shareholder support – which if not forthcoming will require credit rationing and more aggressive loan repricing to meet a 5-year time frame. For these reasons, Kiwibank would considers an 8-year transition period appropriate. The ability to issue marketable hybrid capital instruments of an appropriate proportion (2.5-3% of the Tier 1 requirement) would be one way the Reserve Bank could reduce the stress on small bank competitiveness during the transition period. Should banks not identified as “systemically important” be provided with a longer transition period to meet the new capital requirements. For the reasons given above, this would be preferable given they lack the economies of scale or group structures that the D-SIBs have to be able to generate the higher levels of retained earnings or transfer capital across borders with little impact on global group compliance with their home regulations. Given their smaller size the impact of a longer implementation period would seem to pose little to no risk to the sector overall and is critical to ensuring their ability to compete effectively and avoid further industry consolidation while building up capital levels and making substantial technology investments.

7 Output floor and recalibration of the IRB approach: • Do you agree with the Reserve Bank’s assessment of the relative merits of each approach to setting an output floor on the IRB approach? • Do you agree with the Reserve Bank’s proposed method of narrowing the differences in capital outcomes between IRB and Standardised approaches to credit risk? • Do you agree with the Reserve Bank’s proposed calibration of the output floor and IRB scalar? • What systems or other implementation issues may arise with the Reserve Bank’s proposed method of narrowing the difference in capital outcomes between the IRB and Standardised approaches to credit risk? Proposed Calibration of the capital framework and any related issues raised in this paper We welcome the Reserve Bank’s proposal to reduce the gap in capital required to be held by Standardised banks and IRB banks. There are a number of reasons that support this directional move, including the changes we have seen internationally with the Basel Committee also reducing the differential. The following factors support the directional trend that the Reserve Bank (and global regulators) are proposing: • the possibility that the advanced models have given the IRB banks confidence to push their portfolio risk boundaries further; and • that many IRB bank modelling assumptions have yet to be proven through an economic downturn and have been susceptible to model errors. In the New Zealand context, there is no observable evidence to suggest that on common homogeneous portfolios like mortgages that the IRB banks advanced models have allowed them to better discriminate portfolio credit quality. Moreover, recent experience of IRB banks failing to comply with their advanced modelling obligations suggests there is a complexity to advanced modelling that further reduces their usefulness to New Zealand. The current proposals would still allow IRB banks to enjoy a material regulatory advantage over Standardised banks. There seems no objective basis for this to be the case for those assets that are very similar and lower risk in nature, e.g. residential housing loans. Given that the retail portfolios are essentially homogenous, the Basel III Standardised approach to these portfolios provides more appropriate risk weightings to reflect the underlying risks. When historical loss analysis is reviewed this would suggest that there is no differential between the performance of IRB banks to the larger Standardised banks on housing/mortgage lending. We also are aware the access to tools in the market has improved over time. Tools such as comprehensive Credit Reporting or Automated Valuation Models have become more accessible to all parties in the market enabling all banks to better discriminate risk. This is a further reason why we believe that on these homogenous portfolios a single Standardised approach should be adopted for both IRB banks and Standardised banks. Finally, such an approach would be easier for the public, commentators and investors to understand and for the Reserve Bank to supervise. Kiwibank would like to see the Reserve Bank review the calibration of Mortgage Risk Weights In your response to submissions on the calculation of risk weighted assets, the Reserve Bank noted that it would look to use the Basel Committee’s new standards as a base, adding New Zealand specific variations, when APRA had made its final decisions on adopting these. APRA’s proposed amendments to its capital regime have been aligned with those proposed by the Basel Committee. In this context the Basel Committee proposals provide an improved risk weighting granularity

8 for lower LVR lending that would support a more risk-based approach to mortgage lending, with the higher capital ratios providing the protection for the wider financial system. The current Reserve Bank RWA measures for <80% Loan to Value (LVR) loans is less nuanced than the Basel Committee’s proposals and does not reflect the risk in the underlying portfolios. The Basel Committee proposed a more risk adjusted framework with lower RWA levels for lower risk portfolios, for example <50% LVR at 20% RWA, or 50-60% LVR lending at 25% RWA. There is historical evidence that in a downturn, assets with low LVR are very unlikely to result in material losses. The Reserve Bank itself considers a 35% drop in property prices to be a ‘severe’ stress event. In such a scenario, no loss would be incurred on these loans. Consequently, we consider that lower risk weights should be applied to these exposures (as APRA has proposed). Given the scale of the capital increases that the Reserve Bank is proposing, we request that the Reserve Bank accelerate its consideration of the Basel Committee proposals. While we recognise APRA has not concluded its review, we believe that there is sufficient commentary for the Reserve Bank to reconsider the current settings and look to implement the outcome in tandem with the higher capital levels. This has the potential to mitigate some of the capital cost of the proposals with the savings coming from very low risk exposures (without undermining the RBNZ’s overall objective of raising the overall capital levels).

9 ADDENDUM Comments on Additional Matters and Response to Questions: Additional Matters: In addition to the responses on the consultation we raise two additional matters for your consideration. Hybrid Capital Instruments The Reserve Bank’s decisions to date regarding the eligibility of hybrid capital instruments place New Zealand-owned banks at a further competitive disadvantage compared to their foreign-owned competitors. The reason for this is that foreign-owned banks will be able to issue Tier 1 capital via intra-group structures at rates that, although high, will still be 200-300bp lower than the returns required on equity by their parents (so called ‘fill-in equity’). New Zealand-owned banks will likely have to rely on instruments for which there will be limited investor appetite and whose cost is not materially less than the banks’ return on equity. We would therefore encourage the Reserve Bank to consider forms of hybrid capital instruments that are as ‘investor friendly’ as possible, without compromising on the Reserve Bank’s desire to see high quality loss absorbing capital. Kiwibank’s submission dated 8 September 2017 in response to the Reserve Bank’s Capital Review Paper 2 set out specific concerns that have still not been adequately acknowledged or addressed by the Reserve Bank in this proposal. In summary the key issues raised included:

1. The relevance of using Spanish and Italian case studies to guide regulation in New Zealand given the substantial differences between the New Zealand, Spanish and Italian banking systems in terms of the quality of implementation of accounting, legal and regulatory systems;
2. The basis for the Reserve Bank’s “emerging concerns” around the ability to give effect to a write￾off of preference shares by mandatory redemption for nil consideration when this is based on standard legal principles;
3. That the Reserve Bank’s concerns regarding retail investors mispricing or not appreciating the risk of the instruments is unfounded given their yields relative to credit default swap pricing and laws that ensure retail investors are well informed and properly advised before they invest in bank hybrid products;
4. Rather than seek to prohibit Special Purpose Vehicles (SPVs), or require the SPV to issue instruments that the bank would otherwise have issued itself had it been able to, the regulatory focus should be on whether the transaction via the SPV results in a genuine external contribution of financial strength to the banking group and the ability to effectively pass losses to external investors;
5. The Reserve Bank’s concerns regarding legal and political uncertainty with respect to the ability to give effect to contingent and convertible capital when the Open Banking Resolution framework would appear to give rise to similar issues; and
6. The Reserve Bank’s reluctance to consider the terms of capital instruments (which determine their cost) in conjunction with the proposed capital levels – and so the overall cost of bank capital. It is possible to have marketable hybrid capital instruments while still attaining the Reserve Bank’s objective of improving the bank sector’s capital structure. Without the Reserve Bank making amendments to the features of its proposed AT1 instrument, we would expect that interest rates on future issuances would need to be substantially higher. Broker feedback indicates that perpetual hybrid instrument pricing would need to lift from previous AT1 term pricing of ~350-375bp over swap rates, to at least ~450-500bp. This level of price change will lift the overall cost of capital for banks and require a lift in profitability to compensate. We are aware though that some brokers still have reservations on investor appetite for such issuance with even these yields.

10 The Reserve Bank’s stated concerns about market reaction to the stopping of interest payments on the instruments, or failure to redeem them on a scheduled optional call date, suggests that the market would otherwise be unaware of a financial institution’s position. We do not believe this would be the case. However, to remove the risk of the Reserve Bank feeling pressured to authorise an AT1 redemption to avoid the risk of a market reaction, the exercise of the issuer call feature could be made contractually dependent on the replacement of the capital to be redeemed with new capital of the same amount and of no lesser quality. This would place the onus to effect redemption squarely on the bank seeking the redemption. The issuing documentation to effect the new issue would be subject to continuous disclosure obligations and auditor review for accuracy. In addition to issuer call features, investor marketability is substantially improved as issue size increases. This acts as a further hurdle faced by smaller banks. Noting that the Basel Committee minimum mix of going concern capital is 1.5% AT1 vs 7% CET1 (including prudential buffer) we suggest that the Reserve Bank increase the proportion of AT1 that can be issued by non-D-SIB banks from 1.5% to 2.5-3% and reduce the capital conservation buffer by the same amount. Interrelationship with other regulation While we recognise that this is not part of the Capital Review, we recommend that the Reserve Bank consider, once the review of the Reserve Bank of New Zealand Act is concluded, whether there is a need for Open Bank Resolution, if deposit insurance and the proposed levels of capital are adopted. Implementing all three frameworks could impose an unnecessary cost onto banks without a substantive change to the stability of the financial system.

© 2019 KPMG, a New Zealand partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. Thank you for this opportunity to make this submission in relation to the Reserve Bank’s Review of the capital adequacy framework for registered banks (‘the Capital Framework’). Introduction This submission focuses on KPMG’s expectation of serious negative consequences for New Zealand’s agriculture sector arising from the proposed amendments to the Capital Framework. In this submission we have not considered the pros and cons of the proposed amendments to the Capital Framework in terms of their impacts on the resilience and profitability of affected banks. Instead, we have: 1 Analysed the expected impact on credit pricing by banks, and credit availability from banks to New Zealand agribusiness, should the proposed amendments be implemented. 2 Submitted our views on the consequences of that pricing / credit contraction for New Zealand agribusiness, and for New Zealand. 3 Encouraged the Reserve Bank to prepare/release its own detailed cost/benefit analysis of the proposals KPMG consents to publication of our submission. Executive summary — Five banks currently lend approximately $62 billion to New Zealand agribusiness, approximately two thirds of which is to the dairy sector. — The Reserve Bank has highlighted the vulnerability of the dairy sector in its most recent Financial Stability Report, and emphasised the importance “for the sector as a whole to continue to repair its balance sheets, to restore resilience to a future downturn and to allow farms to invest to adapt to medium-term challenges” — The proposed amendments, combined with other bank-specific changes to the Capital Framework, will require those banks to hold between two to three times the amount of capital per dollar of agri lending, versus residential mortgage lending. KPMG Centre 18 Viaduct Harbour Ave PO Box 1584 Auckland 1140 New Zealand T: +64 9 367 5800 Ian Woolford Prudential Supervision Department Reserve Bank of New Zealand PO Box 2498 Wellington 6140 By email: CapitalReview@rbnz.govt.nz 17 May 2019 Dear Mr Woolford Review of the capital adequacy framework for registered banks - impact on New Zealand agriculture sector

Laurie Lowther Thank you for this opportunity. I am very concerned as to the down stream implications of raising the capital reserves for the banks operating in NZ. This concern surrounds the increase in cost of capital such provisions are undoubtedly bound to flow down to the NZ economy and in particular the small business market and residential borrowers. A very senior banker from one of the major banks advises me that he calculates a 0.7% increase in mortgage costs flowing down to borrowers as a result of these capital reserve increases. I want to make the point that in the current interest rate environment of sub 4% on mortgages, this equates to a 17.5% increase on interest outgoings. I am of the view that this level of cost increase across borrowing for all sectors of NZ is a dangerous proposition when we look at the tenuous position of the NZ economy and that of the world. A slowing economy surely cannot sustain this level of increased cost without causing an acceleration of slowdown. Whilst I understand the benefits of banks having a significant capital reserves to buffer against economic shock, I have been told that these provisions are draconian in quantum and unnecessary at this level. Thank you for considering my points. kind regards... Laurie OIA s9(2)(a)

Leon Dale Dear sir/madam, $5.7 Billion profit p.a. largely to Foreign Banking interests. $20 Billion p.a. in the Investment account to Foreign Investors. No Trade surplus for 30 years. Scant Govt surplus for 30 years. Every year Foreign Banks profit exceeds 10 years Fonterra profits. Every year Foreign Investors (that we know of, excluding service imports worth Billions) earn $20 Billion, or 40 years Fonterra profits. (assuming Fonterra can earn $500 miilion p.a. which is unlikely) Fonterra, $20 Billion turnover, huge risk, huge hours of toil, required to work for NZ for the next 40 years to pay FOreign Investors 1 ONE year profits. Which NZ exporters next 40 years profits will pay for one years 2020 Foreign Investor profits. Fonterra profits are used up until 2059. The payback to free market asset sales and share trading is NZ earns $4 billion p.a. from its Foreign Investments. Our investments will be based on Share growth, while Foreigners closer to actual cash dividends, as they have Monopoly Oligarchy type investments. NZ has to stop the Foreign Investor rort of our economy. We are losing our production possibility frontier when the shares are Foreign Owned as Profits follow the shareholder. Our GDP per Capita needs to be in relation to after deducting the GDP that belongs to Foreigners. We would be better off with less GDP and keeping the surpluses in NZ hands. This is the true comparison. This is the true comparison. Asset Sales is a dead end, we are now borrowing just to pay the Dividends to Foreigners through the Banking system. The risk is when we can't sell Assets for Foreign exchange or Borrow from Foreigners, the Banks will be unable to allow dividends to leave the country as they will be in breach of the Fractional Reserve ration. FOreigners want the ratio lower for this reason, and want to continue House sales to Foreigners as this tops up the Foreign Exchange in our Banks that Exporters are failing to achieve. Why is Fonterra paying more in interest to Foreign banks than it can earn. A tragedy. OIA s9(2)(a)

WHh doesn't a NZ bank create the Fractional Reserve lending ratio in its own system and loan to FOnterra $7 Billion, to keep $350 million interest staying in NZ ? FOreign Banks are using $700 million of NZ Deposit money to create $7 Billion Fonterra loans. It pays 3% to Deposit holders at a cost of $35 million p.a., yet charges Fonterra 5% or $350 Million. Surplus off one NZ company is over $300 million. NZ is the most stupid nation in the developed world to allow this to happen. THe Fed , Swiss and UK print their own money to create Debt, and win the interest back each year. Why are we giving away ours to Foreigners. Help NZ by creating once again NZ owned Banks where the feedback of interest under this Fractional Reserve banking rort works for the country creating the profit. For the last 30 years we have paid more to Foreign Investors than we have been able to earn from them. This is what all receivers find when they arrive at a business that is bankrupt. My final point, Foreign Investment is no different from borrowing from overseas, which the Reserve bank highlighted as the highest risk faced by the NZ economy. Foreign Investment or Foreign Borrowing reflects money flows into NZ with either a Divident cost or an interest charge. Foreign Investment is actually worse than Foreign Debt as the Dividends they want run at 10

• 15% return p.a.. Reverse asset sales and put Foreign investors particularly banks on notice that this rort is about to end. Otherwise, our children are faced with living in a bankrupt economy, tenants in their own land, working for Foreign Investors. Say goodbye to Education, Healthcare, police, emergency services, roading very soon. Thank you for reading, please contact me on 021 1433 625, should you require further clarification. regards Leon Dale C.A.

Lloyd I believe NZ bank BIS ratio should be at international level (20%) to protect our economy system. Since after GFC, we have learn how important role of banks and some banks are too big to fail. Last 10 years, we have significantly increased our economy scale and too much debts has been produced to support this. Our house hold debts are biggest than ever. Many international level reports are warning NZ housing market. I am very worry about this. Increase BIS for banks must be action immediately to prepare/prevent from any international or domestic level economy/financial crisis we may face in the future. Look at Australian housing market. This is real and what we are faced. All NZ banks must responsible for the money they loan to people. I do not want to see NZ economy be part of GFC when it does happens. OIA s9(2)(a)

Logan Guild I agree that having a strong and robust banking sector is critical to the success of the New Zealand Economy. It is important that banks are able to withstand financial shocks. I do think it is important that the regulation is structured in such a way so that it doesn't impede lending to SME's and agricultural clients and result in lending books significantly skewed towards property lending. SME and farming business are the back bone of the economy we should ensure that they have access to capital to support their growth requirements. with regards Logan OIA s9(2)(a)

From: Luca Colosimo To: Capital Review Subject: Bank capital review Date: Tuesday, 14 May 2019 9:16:23 AM Attachments: Capital Requirement.docx Kia Ora Woolford Ian, I'm sending the report regarding the issue raised by the RBNZ about the minimum capital requirement review. Kind Regards, Luca

Lynette Williams Yes I agree that you should make the banks increase their capital. I would like a safer buffer when the next financial crisis hits and I don't want to lose my term deposits. I feel that the big four Australian banks need to increase their capital on a par with the New Zealand banks. I would suggest that you double the amount you ask for now. It's a shame that your implementation of this may be too late to have this capital in the banks before the next downturn hits but I suppose it is better late than never. OIA s9(2)(a)