Australia’s banking watchdog believes the industry is in good shape as storm clouds gather over the global economy.
However, Australian Prudential Regulation Authority chairman Wayne Byres has warned the low interest rate environment will squeeze bank margins and impact smaller banks more forcefully than larger ones.
“But to be clear, neither group will welcome further rate reductions,” Mr Byres told the European Australian Business Council in Melbourne on Friday.
He emphasised the importance of an unwavering focus on financial safety and stability in an environment of economic vulnerabilities, geopolitical tensions and technological disruptions and threats.
“Now is not the time to take our eye off the ball,” Mr Byres said.
“Thankfully, as storm clouds gather, the Australian banking system is broadly in good prudential shape.”
But he said Australian banks are having to get used to low interest rates, something that is nothing new for European banks, and their experience highlights some of the challenges local banks potentially face.
“A very low interest rate environment will see margins squeezed, adding to the headwinds from slow lending growth. Profitability, and therefore capital generation, will come under more pressure,” he said.
“Given their different funding profiles, these trends may well impact smaller banks more forcefully than larger ones, reducing the ability of the former to apply competitive pressure to the latter.”
His comments came as economists at one of the nation’s big four banks – National Australia Bank – forecast this week the Reserve Bank of Australia cutting the official cash rate twice to 0.5 per cent by February.
The cash rate is already at a record low of one per cent after two cuts in recent months.
NAB warned the central bank could cut as low as 0.25 per cent by mid-2020 unless the federal government delivers meaningful fiscal stimulus.
The European Central Bank announced a suite of stimulus measures on Thursday, including a 0.1 per cent cut to a key rate to a new low of minus 0.5 per cent.