A higher limit on Australian covered bond issuance, its replacement by an overall encumbrance cap, and establishing G20 central bank repo reciprocity are among recommendations made by CBA and the ASF in response to a government financial system inquiry.

David Murray, head of government financial system inquiry

The Australian government in late November announced a “root and branch” review of the country’s financial system, the first such inquiry in 16 years, which is being led by David Murray, a former chief executive of Commonwealth Bank of Australia.

The inquiry is aimed at making recommendations that will result in “less costs, lower fees and greater efficiency in the allocation of capital”.

“As part of our broader deregulation agenda, the Government intends to reduce the regulatory burden on the financial services sector wherever the benefits to competition, efficiency, market stability or consumer protection are questionable,” said the government on 20 November.

A first round of consultation closed yesterday (Monday). Initial submissions will begin to be made publicly available on Friday, but some institutions, such as Commonwealth Bank of Australia (CBA) and the Australian Securitisation Forum (ASF), have already published submissions.

In its submission CBA recommended that the issuance limit for Australian covered bonds be increased – under the prevailing cap the value of assets securing the covered bonds cannot exceed 8% of a bank’s Australian assets.

CBA said that this limit should be increased “particularly if the Australian banks are to issue covered bonds to contribute to the development of domestic debt markets”.

It noted that several covered bond jurisdictions have limits higher than 8% or none at all, and compared the Australian situation with that in a range of countries.

However, CBA also suggested replacing the covered bond issuance with an overall asset encumbrance cap.

“Further, a limit could be considered for all encumbrances (i.e. the claim or charge of a lender over the pool of assets), rather than selectively for covered bonds,” it said. “This would ensure a holistic review of asset usage for financing and would protect depositors and other unsecured creditors against over-utilisation for funding.”

The Australian Securitisation Forum recommended that the government “press through Australia’s Group of Twenty (G20) presidency reciprocity among central banks’ repo frameworks” to allow Australian securitisation and covered bonds denominated in the relevant local currency to be eligible for repo with the US Federal Reserve, European Central Bank, and Bank of England.

“This would deepen international investor demand and reduce the liquidity premium presently charged by investors for Australian collateral not being repo eligible,” said the ASF.

Like CBA, the ASF was positive about the passage of legislation in 2012 that allowed Australian banks to issue covered bonds.

“The introduction of covered bond legislation and the removal of restrictions on covered bond issuance in APS120 together with the introduction of APRA Prudential Standard APS121 for covered bonds was one of the successes of the Australian government’s December 2010 reform package,” said the association.

Australian banks have issued more than A$157bn (Eu105bn, US$145bn) of covered bonds, mainly in offshore markets, according to the ASF, which has enabled them to diversify their investor base and reduce funding risk, and helped them to retire government-guaranteed wholesale funding.

CBA and the ASF also called for the Australian Prudential Regulation Authority (APRA) to amend the regulatory regime for securitisation to allow issuance of residential mortgage-backed securities (RMBS) through master trusts, saying that this would pave the way for more ABS issuance.