Credit ratings agency Fitch has already flagged early signs of credit stress and while there was scant evidence of this in the March year Australian bank reports, all the banks were clear they were watching carefully.
According to Fitch’s Mortgage Market Index - Australia: The Dinkum RMBS Index 1Q23, loans on which a payment is 30 days past due, an early indicator of stress, rose by 16 basis points in the March quarter to 0.98 per cent, having bottomed in 2002. Still very low but ticking up.
The agency said it believes that may indicate borrowers are starting to face stress due to inflation and rising interest rates.
“Mortgages written between 2019 and 2021, when lenders tested serviceability using a buffer of 2.5 per cent above the borrower’s interest rate, are more susceptible to deterioration in performance, as the cash rate is now above this buffer,” Fitch said.
Business stress is also rising with the latest Australian Securities and Investment Commission data for corporate insolvencies showing ongoing deterioration with 868 businesses failing in May, the worst result since 2015.
Again, not a reason to panic but evidence that any positive margin contribution to bank profits from rising rates is likely to be dampened by a rise in provisions for bad and doubtful debts. Slower economic growth too translates into slower growth in bank lending – the banks’ assets.
The central bank research found overall the evidence showed smaller effects from falling and low policy rates on bank profitability than previously estimated.
Logic suggests the same as policy rates rise. The costs of banking will go up due to inflation and the need to more closely manage lending. Provisions to reflect the stress in the economy will rise. And to the extent there has been excess profitability in sectors of banking, those profit pools naturally encourage more intense competition.
The benefits of higher rates for bank profits are easy to overstate.
Andrew Cornell is Managing Editor at ANZ bluenotes