The Council of Financial Regulators (CFR) participated in its quarterly meeting this week. Its subsequent quarterly statement has encouraged banks to "make use of their capital buffers to continue to support businesses and households", despite an acknowledgement the banks are feeling "the flow-on effects of the stress experienced". However, CFR also noted that financial institutions have entered this period with a "high level of resilience".
The council members include four government organisations: the Reserve Bank of Australia (RBA), Australian Prudential Regulation Authority (APRA), Australian Securities & Investments Commission (ASIC) and the Australian Treasury. The Australian Treasurer also attended this meeting.
ASX banks and the importance of capital buffers
The share prices of the big four ASX banks over the past year have been falling. At the time of writing:
- Commonwealth Bank of Australia (ASX:CBA) is down by 16.72%
- National Australia Bank Ltd (ASX:NAB) is down by 31.44%
- Australia and New Zealand Banking Group Ltd (ASX:ANZ) is down by 34.04%
- Westpac Banking Corp (ASX:WBC) is down by 36.43%
The majors all lag the performance of the S&P/ASX200 Index (ASX:XJO), which is down 11.80% at the time of writing.
During 'normal' times, Australian financial institutions increase their capital buffers to help shield them from losses in troubled times. The capital buffers were introduced following the GFC, in which the collapse of large financial institutions such as Lehman Brothers occurred.
APRA determines the big four are "systemically important banks". In simple terms, this means they are 'too-big-to-fail' without very severe economic consequences, which means their capital buffers are crucial.
Our regulators telling the banks to lend is significant – it conveys a level of confidence in the economy being able to bounce back quicker than expected. CFR noted that "the rate of new infections has declined sharply in Australia and restrictions have been eased in many parts of the country earlier than was previously thought."
Furthermore, the ability to issue credit to households and businesses could help boost spending and ultimately lead to a rebound in economic growth.
Foolish takeaway
In my view, regulators will do everything in their power to ensure the big four banks will come through the crisis because of the detrimental impact on the financial system should one of them fail.
Looking long term, I think the ASX banks are on relatively cheap valuations and profitability will eventually come back, leading to improved returns to shareholders. As a result, dividends could return to pre-crisis levels. This will assist passive income investors.
I'm also cautiously optimistic about any economic recovery, because the risk of a second wave remains. This could result in the extension of restrictions and business as usual being delayed for longer.
