October 14, 2016 / 5:11 AM / a year ago

Australia's RBA warns banks of oversupply danger in apartment frenzy

SYDNEY - Australia’s financial system is resilient to possible shocks though rising risks in the apartment and resource sectors bear close watching, the country’s central bank said on Friday.

Pedestrians walk past the main entrance to the Reserve Bank of Australia (RBA) head office in central Sydney, Australia, October 3, 2016. REUTERS/David Gray/Files

In a 52-page semi-annual report on the health of the banking sector, the Reserve Bank of Australia (RBA) highlighted pockets of domestic and foreign dangers.

Rising debt in China was a key concern, it said, since a rash of defaults could cause economic disruption in Australia’s single biggest export market.

Domestically, booming supply of new apartments in some inner-cities has raised the risk of a marked oversupply. If apartment market conditions were to deteriorate, banks could face material losses, the RBA warned.

Australia has successfully used historically low borrowing costs to spark a boom in home building that has helped shepherd the economy through the dog days of a global mining downturn.

But concerns about a borrowing-fuelled bubble in home prices was one of the reasons why the country’s central bank left interest rates at 1.5 percent this month.

“Risks around the projected large increases in supply in some inner-city apartment markets are coming to the fore, especially in Brisbane and Melbourne,” it said.

“There are signs that some settlements are taking longer and lending valuations are coming in below their contract price, though settlement failures to date remain low.”

Data shows around 2-5 percent of banks’ total outstanding mortgage lending is to inner-city Brisbane, Melbourne and Sydney, and this is likely to grow as the apartments currently under construction are completed, the RBA said.

Banks would suffer losses on these exposures when the value of the properties is insufficient to cover the debt outstanding, the RBA said. However, it was quick to add that Australia’s mortgage lending has historically had very low default rates – around 0.5 percent – and high levels of collateral.

It added that risks to financial stability from lending to households have lessened over the past six months as lending standards improved and the pace of credit growth slowed.

Banks have also taken steps to rein in risks including restrictions on lending to borrowers relying on foreign income and tightening lending conditions for new property developments.

The RBA pointed to risks in New Zealand given Australian banks have their largest international exposures there.

However, stronger capital and liquidity positions have bolstered the resilience of Australian banks, the RBA said, adding that a range of policies that are being finalised by regulators will further strengthen their position.

”The Australian Prudential Regulation Authority is seeking to ensure that the banks’ capital ratios remain unquestionably strong given their risk profile,” the RBA said.

Australian banks have raised A$20 billion in capital since last year to boost their finances and have reduced focus on low-returning activities such as institutional lending.

“These developments will need to be closely watched to ensure that any behavioural changes do not materially increase systemic risk.”

Reporting by Swati Pandey; Editing by Wayne Cole

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