A major tool that has helped Australian banks protect profits in the past may no longer be available to them

Pirates of the Caribbean/ IMDb

Australian major banks are among the most profitable in the world and they have managed to do that even while adding billions to capital and liquidity.

The one measure that has helped them over the past 10 years is mortgage rate increases. Now, the government has slapped them with a levy aimed at raising $6.2 billion over four years, and analysts from Goldman Sachs to UBS suggest it could be difficult for the banks to take the same route.

That would mean the levy erodes profits by as much as 6%.

By either jacking up rates faster than the central bank or holding on to part of the Reserve Bank of Australia’s rate reductions, the lenders have been able to grow profits even as they doubled the average equity they hold to more than $200 billion over the past nine years.

The spread between the average owner occupier variable mortgage rate and the central bank cash rate has grown two percentage points to 3.8% between 2006 and now, as this chart shows.

CBA, ANZ, NAB and Westpac, which rely on bond markets for a third of their funding, have cited the cost of holding more regulatory capital, competition for deposits and rising cost of funds in credit markets for the divergence with the central bank cash rate.

As the chart shows, the disconnect has been more pronounced in the past two years. A period in which they raised a record $20 billion combined to meet regulatory changes that forced them to hold more capital against mortgages and regulatory curbs were introduced to slow a housing market.

This chart from PwC shows the rise in average equity capital held by the major banks and the declining return on equity, which is still among the highest in a basket of large developed market banks.

The spread would be even bigger for investor home loans.

Federal treasurer Scott Morrison on Tuesday unveiled a major bank levy, a six-basis point charge on the big banks’ liabilities. The tax starts from July 1 and will only affect five lenders with assessed liabilities of $100 billion: the ANZ, CBA, NAB, Westpac and Macquarie.

The lenders will likely see a profit erosion of 2.5% to 6% and a drop in return on equity, assuming they don’t burden their customers with higher rates.

The banks would need to increase owner occupied mortgage rates by 10 basis points and and investment property loans by 25 basis points, UBS analysts Jonathan Mott and Rachel Bentvelzen wrote in an investor note.

However passing on the levy may prove difficult given the competition commission will monitor mortgage pricing until mid 2018 and the lenders will need to explain movements in mortgage pricing, UBS said.

The oversight by the Australian Competition and Consumer Commission “will largely nullify any chance the banks have to offset the impact of the levy via mortgage repricing,” Goldman Sachs analyst Andrew Lyons and Ashley Dalziell said in an note.

More budget coverage:

NOW WATCH: Money & Markets videos

Want to read a more in-depth view on the trends influencing Australian business and the global economy? BI / Research is designed to help executives and industry leaders understand the major challenges and opportunities for industry, technology, strategy and the economy in the future. Sign up for free at research.businessinsider.com.au.