Financial system inquiry chairman David Murray says the federal government could lose its prized AAA credit rating, and the downgrade would hit all the large banks.
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Mr Murray, speaking before giving a keynote speech to The Australian Financial Review's Banking and Wealth Summit on Tuesday, said the deterioration in the federal budget increased the urgency for banks to set aside extra capital to protect themselves during a foreign funding crisis.
The warning was amplified by Deutsche Bank, which said Australia was headed for 15 years of budget deficits and the government's debt was likely to go close to the level that could trigger a credit rating cut.
Australia's main banks are resisting Mr Murray's advice to the government that they be forced to hold enough capital to be placed in the top quartile of internationally active banks – a move likely to hit their profits and dividends.
But Mr Murray is insistent that the banks, which rely on foreign funds, are undercapitalised and pose a risk to the Australian economy.
Because of expectations the Big Four banks' debts are underwritten by the federal Treasury, any credit downgrade of the government could hit their AA credit ratings, increasing their funding costs and reducing their access to foreign capital.
"The AAA rating of the Commonwealth is looking increasingly vulnerable, with little room to move," Mr Murray said in an interview with the Financial Review. "Once the banks fall in under a lower rating, that should be causing a rethinking of their position."
The financial system inquiry argued that the banks needed to be capitalised at levels that made them "unquestionably strong" to maintain foreign investor confidence in the strength of the Australian banking system.
Neither the federal government nor the Australian Prudential Regulation Authority has formally responded to Mr Murray's final report, which the government released in early December. Since then, house prices in Sydney and Melbourne and shares prices have continued to rise.
Mr Murray expressed concern about the global monetary environment, in which central banks have held down interest rates for prolonged periods to stimulate economies ravaged by the financial crisis.
This had helped create a "housing casino" in Australia, he said, and had driven up high-yielding shares, including banks, as investors searched for yield.
Meanwhile, the broader economic malaise was limiting the Australian government's ability to cut spending because it would damage the fragile economy. These conditions had placed the Reserve Bank of Australia in "a very tough position", Mr Murray said.
Reserve Bank governor Glenn Stevens, who will deliver the opening keynote address at the Financial Review summit on Tuesday morning, said last week the ability of interest rates to support economies such as Australia's was limited and economic growth needed to be driven by governments.
"Actions which promote entrepreneurship, innovation, adaptation and skill-building, that reward 'real' risk-taking, while providing a stable macroeconomic environment and a well-functioning financial system will best support our future wellbeing," he said.
Mr Murray said encouraging productivity had become crucial and many of the financial system inquiry's 44 recommendations sought to boost competition and innovation.
"Productivity is best served by people making rational decisions and for those decisions being made in the private sector, not the public sector," he said. "There should be no limits to the thinking about productivity improvement and competition is a big part of it."
Pointing to superannuation policy, Mr Murray said choice had been limited by the industrial system, which currently controls the process of selection of default funds in industrial awards, and a lack of information.
Future Fund chairman Peter Costello, who will deliver a speech to the Financial Review summit on Wednesday morning, argued that the most important superannuation reform the government could introduce was to stop changing the rules.
"We've had contribution rule changed, taxes rule changed. Every time there is a budget shortfall of revenue there are proposals to change the taxation of super. I think it's affected confidence," Mr Costello said.
The tinkering meant most savers had a poor understanding of the super rules, he said.
He hoped technology advances would help to reduce member fees by raising productivity and giving members direct access to their accounts.
Mr Murray, whose report called on the government to "set a clear objective for the superannuation system to provide income in retirement", said the taxation of superannuation was creating perverse incentives.
"People with money want it to be a tax-advantaged savings system. People without money want it to be a free option in retirement. That's not ideal. You get to the point of asking why have it, why bother?"With Sally PattenAuthor: James Eyers
Source: The Sydney Morning Herald