The GFC was a near death event for the global financial system. Australia skirted the edges because our banks weren’t as exposed to sub-prime debt, and because the federal government guaranteed the borrowings of all the banks.
Equally, an innovative plan developed by Westpac’s Treasury team, in the depths of GFC market turmoil, to turn what were non-liquid mortgage assets on its balance sheet into liquid residential mortgage backed securities (RMBS) was an important step in ensuring a liquid banking system.
This step, which APRA and the RBA have now rolled out more widely, allows Banks, Building Societies and Credit Unions emergency access to liquidity from the Reserve Bank.
But the scale of the amount of money that the Majors and the rest of the banking sector may need to access from the Reserve Bank if Australia experiences a housing downturn or a stress event is staggering.
On Friday Westpac released its Capital & Asset Quality Update which showed that it has $66 billion in RBA CLF program.
That’s $66 billion in mortgages Westpac has turned into liquid and marketable assets that it can give to the RBA and receive cash (minus a haircut) in exchange for the securities.
Of course Westpac has $63 billion in high quality liquid assets of its own it can sell and turn into cash before it calls on the RBA for help.
But the key to the CLF is that a “stress event” hitting one bank, particularly a big one, is unlikely to be quarantined to that institution.
So it’s worth noting market estimates are that the total size of the RBA’s Committed Liquidity Facility will be around $350 billion.
Essentially that’s a $350 billion guarantee the Australian taxpayers via the government and the RBA is giving the Australian banking system.
That’s a lot of cash. It is also why the RBA has increased reporting requirements for the banks in terms of the collection and provision of data on the health of the home loans in the CLF.
That data has to be provided both to the RBA directly but also to the public as a hygiene check on the actions of the institutions that access the CLF.
$66 billion to one ADI is big enough, let alone $350 billion to the banking system of which 80% is likely to be the majors.
But to put this in perspective in 2011 RBA Assistant Governor Guy Debelle put some context around the use of the CLF saying:
If a bank is experiencing a problem of illiquidity, the state of its asset portfolio is even more paramount. This relates to one of the fundamental tenets of central banking, most famously associated with Walter Bagehot. Writing in Lombard Street in 1873, Bagehot states that central banks should lend freely (i.e., liberally) at a high rate to solvent but illiquid banks that have good collateral.
Illiquid but solvent!
Let’s hope Australian bankers never need to draw down on the CLF.
Greg McKenna is Director of Police Bank, a customer-owned bank, which has access to the RBA CLF facility.