Foreign banks operating in Australia have been presented with an opportunity through the Federal Government’s proposed tax on the largest Australian banks. The levy would allow the government to recoup some of the implicit subsidy provided to the major banks through the Committed Liquidity Facility that the Reserve Bank provides. Due to this support, ratings agencies Moody’s, and Standard and Poor’s rate the banks two ranks higher (AA-) than they otherwise would. The levy would charge banks with liabilities of $100 billion or more (i.e. Commonwealth Bank, Westpac, ANZ, NAB and Macquarie Bank) a levy of 0.06% on four specific types of liabilities: corporate bonds, commercial paper, certificates of deposit and tier 2 capital instruments.
Foreign banks will likely welcome a competitive boost. Many foreign banks have struggled over the past five years due to weak demand for commercial lending, and intense competition from domestic banks in the residential mortgage market. As a result, revenue for foreign banks is expected to decline at an annualised 7.8% over the five years through 2016-17. The two largest foreign banks in Australia, as measured by total liabilities, are ING Bank (Australia) Limited ($50 billion) and HSBC Australia Holdings Pty Ltd ($29 billion). However, these companies have both experienced difficulties over the past five years. ING’s revenue is expected to decline at an annualised 8.7% over the five years through December 2017, from $3.0 billion to an estimated $1.9 billion. HSBC’s revenue is expected to decline at an annualised 4.1% over the same period, from $1.6 billion to an estimated $1.3 billion in December 2017.
Foreign banks can operate as either branches or subsidiaries. Foreign bank branches can only provide commercial loans and are limited to borrowing from their parent entity. They therefore do not compete for funds in the domestic Australian market. However, foreign bank subsidiaries can borrow from the Australian market. Subsidiaries can also provide loans for all asset types including residential mortgages. Both ING and HSBC are licensed by APRA to operate as subsidiaries.
As ING and HSBC are subsidiaries, they have more scope to improve their competitiveness with the domestic banks as a result of the proposed levy. Subsidiaries such as ING and HSBC compete with the big four banks for deposits and will therefore directly benefit from not being subject to the bank levy. However, the degree to which this new tax would create more competition depends on how the big banks react. In response to the tax, the Australian banks will most likely pass the costs on to their customers as they widen their net interest spread.
The five largest banks will each have to decide whether to absorb the tax increase and suffer lower profits, or pass the cost on to their customers through higher loan rates to borrowers, lower rates for depositors, or a combination of the two. Unless the big banks absorb the tax increase, foreign banks will enjoy a more competitive position in loan markets, deposits, or both. The five major banks have several options. They could offer depositors lower interest rates, charge borrowers higher interest rates, or undertake some combination. If the banks decide to pass on the costs to customers, this would improve the competitiveness of foreign banks.
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HSBC Australia Holdings Pty Ltd
ING Bank (Australia) Limited