The NZ financial system plumbing remains in good shape in spite of a minor blockage in the share trading back end during March, according to the Reserve Bank of NZ (RBNZ).
In its latest ‘Financial stability report’ published last week, the RBNZ says most components of the background NZ market system functioned smoothly during the height of the COVID-19 shock.
Both of the RBNZ-owned financial market infrastructure (FMI) – the ESAS payments system and local listed equities settlement service, NZClear – “proved to be resilient to pressures arising from COVID-19 with no indication of a significant increase in the risk of disruption”, the report says.
However, the NZX-owned share settlement and clearing system, NZCDC, “experienced some disruptions caused by abnormal volumes, although all trades have been successfully processed, albeit with delays on some occasions”.
“NZCDC is implementing measures to reduce the likelihood of on-going issues, including upgrading the software underlying the system to increase communication and trading capacity, and asking system participants to use the system more efficiently,” the RBNZ says.
But with trading volumes expected to remain higher than usual NZCDC, NZClear and “the two securities registries have agreed temporary extensions to normal end of day deadlines”.
Aside from the short-term disruption due to trading overload, the RBNZ report says other ongoing improvements to the NZ payments system, including the move to 24/7 interbank settlements and ‘open banking’ architecture through standard application programming interfaces (APIs).
“At this stage, it is not clear what impact, if any, COVID-19 will have on these initiatives. There may be some delays due to disruption to normal work practices or the pandemic may highlight other issues that require attention,” the RBNZ says. “The Reserve Bank will continue to monitor developments with respect to these various innovations. While the Reserve Bank has encouraged the industry to progress work quickly, especially work to make use of APIs, it does recognise the challenges that the current circumstances bring.”
The current government has supported the development of open banking standards in NZ but has yet to mandate a shift that would require banks to share customer data with third-party service providers.
More broadly, the RBNZ, headed by governor Adrian Orr, says the NZ core banking system was well-positioned to ride out the COVID-19 crisis, which is set to deliver the largest annual GDP decline “at least 160 years” over 2020.
In addition to introducing a wide range of systemic support initiatives, the RBNZ has delayed the implementation of planned bank capital increases by at least 12 months.
Even in the best-case scenario, though, the NZ “banking system resilience will be tested in the coming months”, the RBNZ says, with rising loan defaults and asset value declines.
“Under severe enough scenarios, the viability of banks would come into question,” the report says.
Commercial property could also emerge as a weak point for NZ banks, which have a collective $40 billion exposure to the sector (or 8 per cent of total lending), as the coronavirus slowdown suppresses demand in many areas such as tourism.
“Problems in the commercial property sector are therefore unlikely to threaten financial stability on their own, but could exacerbate the downturn and weaken the financial system’s resilience,” the report says.
More immediately, the RBNZ says the non-bank deposit taker (NBDT) and insurance sectors could struggle during a severe downturn.
Some of the 20 NBDTs have “low profitability and are operating with low financial buffers”, the report says.
“There has been consolidation in the NBDT sector in recent years and this is expected to continue,” the RBNZ says. The NBDT universe shrunk further in April after FE Investments, one of the last remaining NZ finance companies, entered receivership.
Similarly, the RBNZ notes that some “life insurers have also been operating with low solvency buffers, some of which have been adversely affected by falling interest rates”.
Aggregate NZ life insurance profit margins “appear to be high relative to international peers, although they have decreased during the year”.