Wayne Byres, Chairman - House of Representatives Standing Committee on Economics, Canberra
As the Committee is aware, APRA’s 2013/14 Annual Report was recently published, setting out our activities for the most recent financial year. Rather than attempt to summarise the key points of the report, I thought I would provide an update on a few issues of greater current interest.
The Financial Sector
As you would expect, we keep more than a close eye on the health of the financial system. When we appeared in July, I said the system was in generally good health – and I am pleased to say that remains the case today.
The authorised deposit-taking institution (ADI) sector continues to be characterised by good asset quality and, as a result, strong profitability. Loan growth is beginning to pick up again, particularly in the housing sector. Given the importance of the housing sector to the overall health of the banking system, we have had two important streams of work in recent times focussed on this issue:
- We continue to encourage ADIs to reinforce sound lending standards, most recently via the issuance of a new Prudential Practice Guide on Residential Mortgage Lending. And we have been discussing with other agencies on the Council of Financial Regulators what additional steps we might reasonably take to further assist in this regard. There has been considerable media interest in this – many interpreting comments in the Reserve Bank’s Financial Stability Review as a sign that we are planning to implement the same sort of so-called macro-prudential measures introduced in other jurisdictions (such as LVR caps and loan-to-income limits). We are still working through our options but, as I have said elsewhere, those sorts of tools are unlikely to be the ones we reach for first.
- We have recently conducted a comprehensive stress test of the largest ADIs against a scenario that included a substantial economic slowdown and a significant fall in house prices. The good news was that the lenders subject to the test remained above their minimum capital requirements even in the extreme scenario. The caveat to that is that we also concluded more work needs to be done to make sure that, having survived the stress, they would also make a speedy recovery and be able to continue to support their customers through difficult times.
In recent years, the life insurance industry has suffered from a level of disability claims and policy lapse rates that has been materially higher than expected when the business was priced and written. As discussed when we last met, this has been a function of both external factors – for example, litigation and changing community attitudes to mental health – as well as self-inflicted damage from poor industry practices. The group insurance schemes that support the large industry superannuation funds have had particularly poor claims experience. This has led to substantial increases in premiums in some cases, which unfortunately flows directly to the members of the superannuation funds in the form of sharply higher costs of cover.
Despite this experience, the industry remains well capitalised overall. APRA has been monitoring the industry as it seeks to return to a more stable and sustainable footing, in what remains a very competitive market. We are encouraging the life insurance industry and the superannuation sector to work together in their common interest – that is, developing and pricing a set of arrangements that look after the best long-term interest of their ultimate customer, the superannuation fund member.
The general insurance industry has enjoyed a lengthy period of reasonably stable profitability, helped in recent times by relatively benign weather conditions. Falling reinsurance prices (following significant increases a few years ago) have also contributed. Retail insurance prices have stabilised somewhat following a period of increases, and there is evidence of increasing competition from smaller and more recent entrants to the market. Pricing and profitability in commercial lines are under increasing pressure in what is currently a very competitive sector of the market. The industry continues to hold sound levels of capital, so is relatively well equipped to deal with risks that might emerge in future.
Before I leave the subject of insurance, let me add a quick note on health insurance. As the Committee would be aware, the Government has announced the closure of the current health insurance regulator, the Private Health Insurance Administration Council (PHIAC), and the transfer of the prudential aspects of its responsibilities to APRA. This transfer is due to take place on 1 July next year. The transition is a complex exercise involving multiple agencies, and so is not without its challenges. But I am pleased to report that good progress is being made, and at this stage we expect to be ready and able to assume our new responsibilities by the middle of next year as planned.
The superannuation sector continues to grow strongly, with total assets at 30 September 2014 estimated to be $1.9 trillion, an increase of just under 10 per cent over the year. Over that period, APRA has continued its focus on the implementation of the new prudential standards, and particularly how the industry is strengthening its governance and risk management frameworks and practices. The majority of the industry is progressing reasonably well with this task, although the outcomes of our thematic reviews on conflicts of interest management and insurance risk management suggest that further work is needed in a range of areas to meet the heightened expectations set by the prudential standards. We will be releasing our findings from these thematic reviews in the coming months.
In the coming year, APRA will assess the superannuation industry’s progress in other key areas addressed by the prudential standards, such as investment governance. We will also seek information from trustees on how they are meeting their legislative obligation to assess whether members in their MySuper product are disadvantaged relative to those in other MySuper products – often referred to as the “scale test”. This is an important aspect of the new superannuation framework that is intended to drive enhanced competition and efficiency in the industry, and hence better outcomes for members. We expect trustees to take a robust, rigorous and wide-ranging approach to this assessment. Our publication of MySuper product level information will support trustees in doing this.
Let me finish with some brief comments on the policy agenda.
As one might expect, we envisage that much of our policy agenda in 2015 will be driven by the recommendations of the Financial System Inquiry, and the Government’s response to it. Like everyone else, we are eagerly awaiting the final report. But the FSI’s Interim Report said enough to suggest there will be plenty to keep us busy in the year ahead.
With the FSI underway, 2014 has been a relatively quiet year on the policy front. It has therefore provided a good opportunity to take up the Government’s request to see how we can best contribute to its broader deregulatory agenda. Our goal has been to see what changes we might be able to implement that would reduce the regulatory burden on industry, without jeopardising the fundamental strength of the prudential regime that has served Australia well.
We have approached this in a structured and systematic manner, establishing a project team chaired by the Deputy Chairman, and formally seeking input from each of the industries we regulate. Industry representatives were asked to provide ideas, and expected cost savings, to help us kick off the task. The response was mixed, with some industries providing a wide range of ideas, and others bringing less to the table. We also generated our own list of ideas internally.
We have now triaged all suggestions received, and will shortly be issuing an information paper outlining a number of the suggestions that we think we can implement reasonably quickly. In some cases, this may only involve providing greater clarification of APRA’s expectations with respect to its requirements, as it was clear that some regulated institutions are incurring greater costs in complying with the prudential framework than we actually intend. We will also flag a range of other ideas that we intend to pursue, albeit that they may take a little longer to implement.
With all of that as background for our discussions this morning, my colleagues and I would be happy to answer the Committee’s questions.