Views on the bill
2.1
The committee received submissions from a range of organisations and
individuals. Many submitters to the inquiry agreed with the overall objectives
of the proposed legislation to strengthen the Australian Prudential Regulation Authority's
(APRA) powers in relation to crisis resolution and resolution planning.
However, support for the objectives of the bills notwithstanding, concern was expressed
regarding various provisions of the bill and whether they were the best way to
ensure the stability of Australia's financial system in the future.
2.2
This chapter examines in more detail the varied views on the bill, particularly
those views expressed that relate to the new statutory and judicial management
powers, the conversion and write-off provisions and the Financial Claims Scheme
(FCS).
General comments
2.3
A number of submitters agreed that the stated objective of the bill, to
strengthen Australia's financial system and prepare for any potential future
financial distress, was a positive step towards safeguarding Australia's
economy into the future.
2.4
The Reserve Bank of Australia (RBA) noted the importance of the proposed
reforms and submitted that the passage of the bill is 'critical for ensuring
that APRA has the appropriate powers to manage the resolution of financial
institutions in distress'.[1]
The RBA's submission summarised that:
The reforms clarify APRA's current regulatory powers and
remove uncertainty regarding when they can be used and their scope of
operation. They also provide new powers to support resolution planning outside
times of crisis and resolution management in the event of a crisis.[2]
2.5
The Chairman of APRA, Mr Wayne Byres, appeared at the committee's
Supplementary Budget Estimates hearings in October 2017 and commented that the
bill, which has been many years in the making, would provide 'vital
infrastructure for the well-being of the financial system'.[3]
2.6
The Australian Bankers' Association (ABA) agreed with Mr Byres' view and
noted that they also recognise the importance of maintaining a 'sound and
stable financial system'.[4]
2.7
The Australian Institute of Company Directors (AICD) supported the bill
in principle, commenting that:
While the proposed powers in the Bill are extremely broad, it
is desirable that, in the event of a crisis or an impending financial crisis,
APRA has as many options in the 'regulatory toolkit' as are reasonably
necessary to ensure the effective management of a crisis.[5]
2.8
That said, support for the bill was not universal. As noted in the previous
chapter, the Citizens Electoral Council (CEC) and its members did not support
the passage of the bill:
The CEC urges the committee to act on behalf of all of the
Australian people, by rejecting this bill, and using the committee to lead a
process of establishing a Glass-Steagall separation of the Australian banking
system that can guarantee financial stability and protect Australians’
financial security.[6]
International best practice
2.9
As explained in Chapter 1, the Global Financial Crisis (GFC) in 2008
prompted a global response as many nations began searching for ways to ensure
that, if a financial crisis were to occur again, their financial systems would
be better prepared and more able to maintain their stability in the event of
any distress.
2.10
In 2011, the international body that monitors the global financial
system, the Financial Stability Board (FSB) developed an international standard
for resolution regimes, referred to as Key Attributes, and encouraged member
countries to undertake the necessary legal reforms to equip their national
authorities with the capacity to respond effectively and quickly to financial
institutions in distress. Australia endorsed the FSB's Key Attributes of
Effective Resolution Regimes for Financial Institutions at the G20 in 2011.
2.11
A number of submitters noted the importance of bringing Australia's
resolution system in line with international standards and thought that the
proposed legislation would achieve this outcome. In particular, the
International Swaps and Derivatives Association Inc. (ISDA) believed that the
proposed legislation would better align Australia with international best
practice in crisis resolution and supported regulatory consistency across
jurisdictions.[7]
2.12
The RBA commented that the implementation of the FSB's Key Attributes is
designed to allow a financial institution that is no longer viable and has no
prospect of becoming so to 'be resolved in an orderly manner without severe
systemic disruption or exposing taxpayers to the risk of loss'.[8]
2.13
The Australian Financial Markets Association (AFMA) also agreed that
strengthening APRA's powers in a manner consistent with the FSB's Key
Attributes would create an effective resolution regime that could resolve
financial institutions without 'severe systemic disruption and without exposing
taxpayers to loss'.[9]
Statutory and judicial management
2.14
The bill proposes to allow APRA to appoint a statutory manager to a
greater range of entity types, including authorised non-operating holding
companies (NOHCs) of authorised deposit-taking institutions (ADIs) and insurers
as well as domestically incorporated subsidiaries of authorised NOHCs or
ADIs/insurers.
2.15
The AFMA explained that APRA's ability to appoint a statutory manager to
a failing entity was an important tool for dealing with a financial institution
in acute distress. Specifically, AFMA stated that:
In some crisis situations, it will be important that an SM
[statutory manager] or JM [judicial manager] can take prompt and decisive
control of a distressed or failing entity. Depending on the situation, the SM
or JM may need to assess rapidly what the entity's financial position is,
whether the entity can be restored to financial soundness or what option will
facilitate an outcome in the best interests of depositors and policyholders. It
is vital that a decision to keep the business going is made quickly,
particularly in the case of an ADI given the nature of its business (that is
large amounts of on-call funding, the provision of payment services and the
need to maintain market confidence).[10]
2.16
APRA noted in its submission that the new powers set out in the bill,
allowing it to appoint a statutory manager, will only be used in certain
situations where quick action is vital to the outcome of a failing financial
institution. APRA pointed out that in a majority of situations, the process of
applying to the court for a judicial manager will remain 'an appropriate means
of stabilising a failing insurer'.[11]
Directions powers
2.17
The broadening of APRA's directions powers would give APRA the authority
to direct subsidiaries of ADIs, insurers or NOHCs, as well as the main ADI or
insurer. An important part of the directions powers provisions is the increased
immunity from prosecution for an institution, its directors, or its officers in
complying with a direction issued by APRA.
2.18
The RBA commented that ensuring that there are 'no barriers to directors
complying with any APRA direction' is an important provision of the bill.[12]
2.19
The AICD further noted that as it is a criminal offence not to comply
with a direction from APRA, the increased immunity the bill provides is
crucial. The ability for an officer of an institution to be able to fulfil a
direction without 'reluctance, distraction or delay' was considered to be a key
part of the provisions by the AICD.[13]
2.20
The AICD also suggested that, in addition to the immunities already
included in the bill, the government might consider 'appropriate checks and
balances such as merits review mechanisms, direct ministerial oversight and
court supervision as appropriate'.[14]
Conversion and write-off provisions
2.21
As noted in Chapter One, specified capital instruments can be converted
or written off in order to ensure the stability of the affected ADI or insurer
when it is in distress. The bill seeks to increase certainty in relation to the
conversion and write-off of capital instruments by ensuring that any terms set
out in AT1 and T2 capital instruments cannot be overturned due to any legal
impediment.
2.22
The conversion and write-off of capital instruments to support an ADI or
insurer in distress was an important concern for a majority of submitters to
the inquiry. Submitters, and particularly the CEC and its members, expressed
concern that the conversion and write-off provisions could see many Australians
unexpectedly lose their investments.
2.23
For example, the CEC noted that the capital instruments AT1 and T2
include bank hybrid securities. Bank hybrid securities are a form of investment
that include both debt and equity elements. They propose to pay a set rate of
return until a certain date, in the same way a fixed term deposit might. Unlike
term deposits, the contracts of AT1 and T2 bank hybrid securities include
conversion and write-off provisions in their terms. Bank hybrid securities are
an increasingly mainstream investment option and require the holder to sign a
contract indicating that he or she understands the terms of the investment.
2.24
However, CEC highlighted that often the individuals buying bank hybrid
securities may not understand the terms of the associated contract when they
sign up for this type of investment.[15]
Unfortunately, in not making themselves appropriately aware of the high-risk
nature of their investment, investors are inadvertently opening themselves up
to the potential of significant and unexpected losses.
2.25
In its submission, the CEC drew on the words of the former Chairman of
the Australian Securities and Investments Commission, Mr Greg Medcraft, who
said that retail investors buying hybrid securities were at risk for two main
reasons:
One is they don't understand the risks that are in over
100-page prospectuses and, secondly—and this is probably for a lot of
investors—they do not believe that the government would allow APRA to exercise
the option to wipe them out in the event that APRA did choose to wipe them out.[16]
2.26
It is important to note that when AT1 and T2 capital instruments are
sold, they are required by law to include in their terms, the conversion and
write-off provisions, alerting the investor to the higher level of risk involved.
The explanatory memorandum specifically states that:
In order for the amendments to apply, any such instrument
will need to be issued with terms included for the purposes of conversion and
write-off provisions in APRA's prudential standards at that time.[17]
2.27
In answers to questions on notice from the committee, APRA clarified
that its capital framework provides for CET 1, AT1 and T2 capital in accordance
with
Basel III, and further, that APRA does not have any proposal to change this.
APRA also noted that any changes would be subject to consultation and other
requirements of best practice regulation.[18]
Protection of depositors' savings
and 'bail-in'
2.28
As noted above, an overwhelming majority of stakeholders, particularly
members of the CEC, expressed fear that the proposed legislation would allow
APRA to 'bail-in' the savings of depositors in order to stabilise a failing
financial institution. The term 'bail-in' refers to the conversion of capital
instruments into cash that is then used to support an institution in distress.
2.29
Dr Wilson Sy, a former analyst with APRA, considered that the bill was
not clear enough on the topic of depositors' savings. Dr Sy suggested that
whilst the Banking Act 1959 (Banking Act) includes a section on the
protection of depositors, it also says in Subdivision A, subsection 12(1),
Division 2 of Part II:
It is the duty of APRA to exercise its powers and functions
under this Division for the protection of the depositors of the several ADIs and
for the promotion of financial system stability in Australia.[19]
2.30
Dr Sy explained that this statement 'may provide some comfort to
ordinary people, but it is illusory because deposit protection is to be
balanced against financial system stability, without the law clearly stating
which has higher priority'. Dr Sy claimed that the bill is 'designed to confiscate
bank deposits to 'bail-in' insolvent banks to save the financial system'.[20]
2.31
Dr Sy and the Australian Movement for Sustained Development (AMSD) cited
Cyprus as an example of where citizens' bank deposits had been 'bailed-in'. In
particular, Dr Sy explained that following the GFC in 2008, Cyprus' financial
system was failing; and that to remedy the situation in 2013, bank deposits
were 'confiscated' and used to support the failing financial system.[21]
2.32
The AMSD also commented that the effects of the Cyprus 'bail-in' were
devastating and recommended that the bill be amended to specifically exempt
unsecured deposits from bail-in.[22]
2.33
The CEC also commented that the bill was unclear regarding how APRA
might treat deposits. It noted that in the bill, under the Section 11CAA
Definition, it states that:
conversion and write-off provisions means the
provisions of the prudential standards that relate to the conversion and
writing off of:
-
Additional Tier 1 and Tier 2
capital; or
-
Any other instrument[23]
2.34
In this instance, the term 'any other instrument' has been interpreted
by the CEC as being open ended. However, as noted previously, any instrument
that can be converted or written off must specifically indicate this in their
terms at the time of sale.
2.35
Treasury stated that the above interpretation of the bill by the CEC is
incorrect and clarified that:
The use of the word 'instrument' in paragraph (b) is intended
to be wide enough to capture any type of security or debt instrument that could
be included within the capital framework in the future. It is not the intention
that a bank deposit would be an 'instrument' for these purposes.[24]
2.36
Treasury further stated that they did not believe that paragraph (b)
could be interpreted to include bank deposits as an instrument that could be
converted or written-off:
The operative section to which this definition applies, new
section 11CAB, would only apply where an 'instrument' contains terms providing
for conversion and/or write-off and those terms reflect requirements in APRA's
prudential standards (which are disallowable by Parliament).[25]
2.37
Treasury confirmed that because deposits are not classified as capital
instruments, and do not include terms that allow for their conversion or
write-off, they cannot be 'bailed-in'.[26]
2.38
Treasury also noted that the current law and the proposed bill both provide
a high level of protection for the interests of depositors in a crisis:
In particular, APRA' s statutory objectives include
protecting the interests of depositors and promoting financial system stability
in Australia. Both Treasury and APRA consider that, in the case of the failure
of an ADI, the objectives of protecting depositors and promoting financial system
stability would be very closely aligned.[27]
2.39
The reforms in this bill ensure that contractual write-off or conversion
provisions in relevant instruments operate in accordance with their terms.
Further, APRA has specifically stated that the reforms do not constitute a
statutory power for APRA to write-down or convert the interests of other
creditors in resolution, including depositors of a failing ADI.[28]
Australian branches of foreign ADIs or insurers
2.40
The bill proposes to expand APRA's crisis management powers to include
Australian branches of foreign regulated entities. Specifically, APRA will be
given the power to:
-
appoint a statutory manager to the Australian branch of a foreign
ADI or insurer;
-
apply to wind up the Australian branch of a foreign ADI or
insurer; and
-
implement a transfer of business of the Australian branch of a
foreign ADI or insurer.[29]
2.41
The RBA commented that despite the important role that foreign ADIs play
in the Australian economy, APRA currently has limited powers to manage their
potential resolution. The RBA noted that:
The Bill will provide APRA with stronger powers to manage
resolution and thereby better respond to and contain the resulting impact on
the domestic financial system, as well as meeting its obligations to support
overseas regulators during a cross-border resolution.[30]
2.42
APRA and the ABA noted that the failure of a foreign branch in Australia
could pose a risk to the stability of the Australian financial system, and that
preventing this risk was an important provision of the bill.
Financial Claims Scheme
2.43
As discussed, the Financial Claims Scheme (FCS) provides protection to
deposits held in financial institutions and to policies with general insurers
in the event that a financial institution fails. The FCS will be activated by
the Australian Government when an institution fails; and once activated will be
administered by APRA.[31]
2.44
The FCS aims to ensure the stability of the financial system as a whole
following the failure of a financial institution by protecting the interests of
depositors and policyholders.
2.45
A number of submitters expressed deep concern over the effectiveness of
the FCS in the event of a financial crisis. In particular, the CEC commented
that:
...there is a very real question of whether the FCS is any
guarantee at all. Both the 19 June 2009 meeting of Australia's Council of
Financial Regulators, which includes APRA, ASIC and the Reserve Bank, and the
FSB in its 21 September 2011 'Peer Review of Australia' noted that the
government's $20 billion provision per ADI would not be sufficient to honour
its deposit guarantee in the event of a failure of any of the Big Four banks.[32]
2.46
Dr Wilson Sy echoed the CEC's concerns, and expressed further doubt that
the Government would actually activate the FCS in the event of the failure of a
financial institution, and concluded that bank deposits are not protected or
guaranteed.[33]
2.47
Treasury did not agree with the assertion made by Dr Sy, highlighting
that 'the various protections afforded to deposits/depositors under the
Australian law means that APRA will seek to prioritise the interests of
depositors in the event of the failure of an ADI'.[34]
2.48
The RBA also commented that:
Under the FCS, the Australian Government guarantees the prompt
repayment of deposits at a failed Australian ADI of up to $250 000 per
depositor.
Deposits in excess of the FCS cap in Australian ADIs benefit
from the legislated ‘depositor preference’. Under the Banking Act 1959,
depositors are granted a priority claim on the assets of a failed ADI ahead of
other unsecured creditors (once the Government has been reimbursed for any
payouts and expenses arising from the FCS).[35]
2.49
The Australian Government and APRA have activated the FCS once before:
To date, the FCS has been declared once in respect of a small
general insurer and APRA's experience in administering the FCS in that case,
coupled with other proposals canvassed in previous Government consultations in
2011 and 2012, provide the basis for the enhancements to the FCS in the
proposed legislation.[36]
Other matters raised
2.50
The Australian Restructuring Insolvency and Turnaround Association (ARITA)
expressed only one concern in relation to the bill; that is, the requirement to
provide at least one week written notice to APRA of the intention to appoint or
apply to appoint an external administrator to a regulated entity or an
authorised NOHC. ARITA explained that:
If a regulated entity or authorised NOHC is in a position
whereby a decision is made that the appointment of an external administrator is
necessary, timely action will be required. We are concerned that the notice
requirement may create an unacceptable delay to the making of the appointment. [37]
2.51
ARITA agreed that notice should be given; however, it suggested that the
current requirement to provide notice in section 62B of the Banking Act (and
later in the Insurance Act 1973 and Life Insurance Act 1995 also)
without a specified notice period is satisfactory.[38]
Committee view
2.52
The committee believes that the bill will ensure the protection and
stability of Australia's financial system. The enhancement of APRA's powers to
plan for and execute the resolution of a failing ADI or insurer is a vital part
of Australia's crisis management toolkit. The reforms proposed in this bill are
consistent the FSB's Key Attributes and will bring Australia's crisis
resolution framework in line with international best practice.
2.53
The committee acknowledges the concerns raised by the CEC and other stakeholders
to the inquiry in relation to the conversion and write-off provisions. The committee
notes, however, that the bill does not propose to change the current
arrangements for the conversion and write-off provisions of capital
instruments. The bill only proposes to ensure that the conversion and write-off
of capital instruments cannot be legally inhibited.
2.54
Whilst the sale of bank hybrid securities does not fall within the scope
of this bill, the committee acknowledges that this is an important issue raised
by submitters. The committee believes that the underlying issues appear to be centred
on consumer education, financial literacy and adequate consumer protections. The
need for individuals to be equipped to better understand the contracts they are
entering into, or know where to seek appropriate advice, is crucial. The
committee understands the importance of consumer education and financial
literacy, and also notes that the Senate Economics References Committee is
currently inquiring into consumer protection in the banking, insurance and
financial sector.
2.55
The committee notes that recent reforms have contributed to a financial
system that is unquestionably strong and, as a result, does not consider that Glass-Steagall
legislation is warranted in Australia.
2.56
The committee believes that the protection of depositors' interests is
paramount and does not consider that the bill would allow the 'bail-in' of
Australians' savings and deposits. The stability of the financial system
depends on its depositors having confidence in its financial institutions. By
ensuring the security of depositors' savings, the overall protection of the
financial system can be ensured.
2.57
The committee also notes that the bill includes an amendment to the
definition of 'prudential matters' which includes the words 'to protect the
interests of depositors of any ADI', which further enshrines in law the
importance of protecting depositors' interests.
2.58
The committee is satisfied that depositors are protected both by the FCS
and under the Banking Act. Under the FCS, the Australian Government guarantees
the prompt repayment of deposits at a failed Australian ADI of up to $250 000
per depositor. The Banking Act includes 'depositor-preference provisions' which
give depositors priority over most other creditors in the winding up of an ADI
or insurer, to the extent that depositors have not already been paid out by the
FCS.
Recommendation 1
2.59
The committee recommends that the bill be passed.
Senator Jane
Hume
Chair
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