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Economics & Finance

Australian banks well positioned to weather the financial crisis

In comparison to the battered banks elsewhere, Australia’s ‘big four’ banks have been “holding up very well” relative to their counterparts in the US and Europe, which have either filed for bankruptcy or have sought government bailouts, says John Schubert, chairman of the Commonwealth Bank of Australia, the country’s biggest lender by market capitalisation.

While the global financial crisis hasn’t resulted in question marks regarding the solvency of Australia’s banking giants, the share prices of the ‘big four’ – Commonwealth Bank of Australia (CBA), National Australia Bank (NAB), Westpac Banking Corp (Westpac) and Australia and New Zealand Banking Group (ANZ) – have nonetheless fallen to their lowest levels in 52 weeks.

Speaking to INSEAD Knowledge recently at the school’s Asia campus in Singapore, Schubert says things would have been much worse for CBA if not for its cautious approach to US subprime investments.

“I know over the last three years there were numerous occasions and we looked at some things and said there’s no pricing for risks here and we shouldn’t be part of this,”

“This will come back and really hurt if we take out that particular investment, and so we didn’t. And it’s held us in a very good state.”

Even so, analysts estimate that CBA’s bad debt charges could surge by A$1 billion to A$2.3 billion in 2009, in view of its debt exposure to failing corporations at home and abroad.

The bank’s debt exposure includes loans of A$150 million to Lehman Brothers and its subsidiaries, and a loan of A$170 million to Allco Finance Group. CBA also had exposure of some A$660 million to failed Australian childcare operator ABC Learning Centres, of which it has written off A$460 million.

For the 2007/08 financial year, CBA booked a loan impairment charge of A$930 million, up from A$430 million a year ago. This mirrors the increase in provisions and impairment charges recorded by the other major Australian banks in their recent annual results.

Schubert acknowledges that CBA’s provisioning for bad debts “is going up a little bit” due to the adverse turn of the economic cycle and its exposure to distressed major companies, but he also stresses that CBA has a “very strong capital position”.

From an industry-wide perspective, Australian banks are in a better position than banks in the US and Europe, in part because Australia’s financial crisis in the early 90s – which led to the near-bankruptcy of Westpac – had taught Australian banks to focus on risk management.

“I think we’ve got a situation where we have had pretty good risk management. I think we have good regulation in Australia,” says Schubert.

“The big four banks in Australia are all double A-rated (in terms of credit rating) and we have four of about 15 double A-rated banks in the world in Australia.”

Nevertheless, Australian banks are joining in the tide of worldwide retrenchments in the financial sector. ANZ has announced it would cut 500 jobs, while Westpac is cutting about 300 jobs from its wealth management arm.

Financial services consultancy KPMG estimates that up to 10,000 jobs could be shed from the Australian banking sector in the next 12 months. Currently, Australia's four largest banks employ around 152,500 staff.

As for CBA, it has announced that it is cutting costs by 5 per cent, a move which is expected to result in savings of A$370 million. The cost-cutting drive, which will include retrenchments, has drawn criticism from Australia’s Financial Sector Union, the FSU, given its 2007/2008 full-year profits of A$3.7 billion and its recent A$2.1 billion acquisition of domestic rival BankWest from British bank HBOS.

However, CBA’s Schubert says on-going cost-cutting measures to maximise operating efficiency are necessary.

“Having the lowest costs is just the ticket to stay in business. If you don’t have the lowest costs in your industry, then you’re vulnerable.”

“It doesn’t matter whether you’re in an upswing or a downswing, you have to look at becoming more efficient.”

The BankWest transaction is expected to include $330 million worth of restructuring costs, which could deliver $220 million in long-term savings for CBA.

To be sure, the business environment in Australia is expected to become more challenging for banks. This is in view of the economic downturns in key export markets, declining commodity prices, weakening domestic demand and the significant retreat of the Australian dollar against the greenback.

Yet in the face of the weak Aussie dollar, the Reserve Bank of Australia cut the overnight cash rate to its lowest level in almost five years, from 6 per cent to 5.25 per cent in early November, reflecting the extent of official concern about the fall-out from the global financial crisis. For its part, the Australian government recently announced a stimulus package worth A$10.4 billion.

Schubert praises the RBA’s latest rate cut as “a very good move”, adding that the market expects even more rate cuts in the coming months as the economy is slowing.

“The Australian economy is doing better than almost any Western economy. But it is slowing”

“I know, for example, that around Australia, restaurant trade is off 15-20 per cent and I’m sure that sort of number would be exactly the same in many small businesses,”

He adds that the economic uncertainty is causing people to spend less, which would curtail economic growth and consequently drive further job losses.

“So I think we are going to see reduced growth in Australia and that’s going to affect every business.”    

Australia’s central bank is forecasting economic growth to slow to 1.5 per cent for 2008 from 4.2 per cent last year. It also projects economic growth of 2.5 per cent in 2009.

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