Bank ratings prospects two-sided in wake of FSI report

All three major credit ratings agencies pointed to the prospect of negative impacts on bank ratings from the final report of the Financial System Inquiry.

While a build up in industry capital would support each bank's credit ratings on a stand-alone basis, the comments from the three agencies all emphasise the significance of the bank resolution - and creditor bail-in scheme - that Australia may eventually adopt.

Standard & Poor's, for instance, wrote in a comment that "ratings of these financial institutions [mainly major banks] could be negatively impacted in the event we were to believe that the government would be less supportive toward the banking sector.

"Further, our current ratings view is predicated on each of these institutions continuing to be systemically important and hence a potential recipient of government support in the (unlikely) event that it was required."

S&P said: "We remain steadfast in our view that ratings of systemically-important banks would likely be negatively affected if the government eventually were to adopt a different approach to bank resolutions, and we were to believe there could be a greater appetite for bail-in of senior bank creditors.

"While the full report is still being analysed by us, our initial reaction is that this does not seem to be the approach favoured by the FSI."

Moody's Investors Service said the recommended requirements, including higher capital levels, would "enhance the resilience" of the Australian banking system.

But Moody's  noted that, "while improving banks' stand-alone credit fundamentals, … the increasing loss-absorbing capacity could place offsetting negative pressure on the current two-notch uplift in the major banks' ratings for senior obligations attributable to government support, since it reduces the likelihood of bank resolution taking place by way of bail-out and instead implies a higher level of burden-sharing with creditors."

Moody's pointed out that:  "the exact resolution mechanisms Australia will ultimately adopt remain to be determined," and said the impact on bank ratings "would depend on the degree to which the positive impact of higher loss-absorption capacity offsets the possible reduction in Moody's support assumption for the banks' senior obligations."

Fitch Ratings noted that "Australian bank capital holdings are likely to rise significantly if all recommendations are implemented."

Fitch said development of a stronger resolution framework was likely to "result in the removal of our view of implicit support for the system, resulting in Support Ratings and Support Rating Floors migrating to '5' and 'No Floor', respectively."

 However, Fitch said it believed Australia would "wait to see how global rules settle before finalising requirements."