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New Zealand's Financial System Resilient

7 November 2007

New Zealand's Financial System Resilient

The Reserve Bank today released its Financial Stability Report, a twice-yearly report assessing the health of the New Zealand financial system.

Reserve Bank Governor Alan Bollard said the financial system is sound and has been reasonably resilient against a back-drop of worldwide market volatility.

"In recent months global financial stability has been severely tested, with turmoil in financial markets," said Dr Bollard. "Failure by borrowers in the US sub-prime mortgage market to meet their payments led to more widespread financial market volatility. As a result, the cost of risk has increased and liquidity has reduced."

Liquidity in the New Zealand dollar foreign exchange and interbank markets was tightly stretched in August, and, like many other central banks, the Reserve Bank stepped in to ensure the interbank market could trade normally.

"Recent events highlight the importance of liquidity for institutions and the financial system as a whole, and there are important lessons to be learned," Dr Bollard said. "New Zealand is heavily reliant on foreign capital markets, given its large external debt. These markets may not be as secure and liquid as previously thought."

Dr Bollard said the Reserve Bank is commencing work on a specific liquidity policy for banks, which it expects to introduce in 2008.

Reserve Bank Deputy Governor, Grant Spencer, said banks' asset quality remains in good shape, and profits continue to increase in line with growth in bank lending. However, risks to financial stability still remain due to low household saving. Debt and debt-service ratios continue to rise, making households and the financial sector vulnerable to a housing market correction.

Mr Spencer said failures in the non-bank financial sector to date have been caused by underlying solvency problems related to asset quality, connected lending, and credit management. However, recent liquidity pressures have been a trigger for closure in some cases, and many companies are under continued liquidity pressure because of reduced deposits by households.

"Despite the substantial impact of recent events on non-bank depositors, the failures are unlikely to have broader negative effects on the financial system and the economy," Mr Spencer concluded.


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