The Reserve Bank of New Zealand has strengthened its liquidity requirements for banks. It will be expensive, but at least they'll be operating on a sounder footing. Writer Michael Imeson

What is it?

New Zealand's banks will have to follow strict new liquidity regulations from April 1. While they accept that benefits will accrue from reduced liquidity risk, the new regulations will be costly to implement.

The rules apply to most locally incorporated banks, including the large Australian subsidiaries. They will be extended to the remaining banks, including branches of overseas banks, in the near future.

Who dreamed it up?

The Reserve Bank of New Zealand - in particular Grant Spencer, deputy governor and head of financial stability.

What are the main provisions?

According to the Reserve Bank's liquidity policy, banks must comply with the following quantitative requirements for liquidity risk management:

- The one-week and the one-month liquidity mismatch ratios of a bank must not be less than 0% at the end of each business day.

- The one-year core funding ratio of a bank must not be less than 65% at the end of each business day. In addition, a bank must have an "adequate" internal framework for liquidity risk management.

What's in the small print?

Banks will eventually have to report all their liquidity related data to the Reserve Bank, and publicly disclose information on their liquidity risk management.

What does the industry say?

The country's bankers were unhappy with aspects of the Reserve Bank's policy when it was issued last June. They succeeded in getting changes made which were incorporated into the final version of the policy, published in October.

Kerry Francis, chief executive of treasury and financial markets at ASB Bank, says that the Reserve Bank had been "inclusive" in considering banks' views. "This process has been complex, as liquidity management is fundamentally not only about contractual payment terms, on both in- and outflows of funds, but the impact of customer behaviour on cashflows," he said.

A spokesman for ANZ New Zealand says the "major virtue" of the new policy is its "simplicity". "There is some risk that 'one size won't fit all', but generally we are happy that it will be workable," he adds.

How much will it cost?

There will be significant costs in building and testing new data collection, analytic and reporting models, said ASB's Mr Francis.

"Secondly, banks have the potential cost of moving to a greater proportion of more expensive long-term funds, including 'sticky' retail deposits, to meet the one-year core funding ratio, assuming they are not already at the initial policy setting.

"Finally, banks not already managing to a net positive cash outflow to liquid asset ratio over a 30-day period may face the potential cost of having to hold more liquid assets. While this is a potential cost, a greater term of liquidity cover can also be a benefit, the absence of which was highlighted by cases such as Northern Rock in the UK."

What do the regulators say?

The Reserve Bank gets straight to the point: "The objective of this liquidity policy is to contribute to the smooth functioning of the financial system by reducing the likelihood of liquidity problems affecting a registered bank, and promoting registered banks' capability to manage such problems."

The law of unintended consequences?

None apparent so far, other than the costs.

Could we live without it?

No. The Basel Committee on Banking Supervision recently published proposals for global minimum liquidity standards which the Reserve Bank of New Zealand would have had to adopt if it had not already come up with its own.



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