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Commonwealth Bank FY Net Rises To Record; Margins Pinched

August 16, 2010

http://online.wsj.com/article/BT-CO-20100811-702901.html

Australia’s big four banks have been posting record profits.  “Commonwealth Bank of Australia (CBA.AU), the country’s biggest bank by market capitalization, on Wednesday posted a 20% rise in full year net profit to a record A$5.66 billion.”  This is line with results being posted by the bank’s domestic competitors.

Yet banking shares in Australia have not done well lately, despite these record profits.  The banks themselves, Commonwealth included, have been cautious about future profits, saying that “fragile global sentiment and rising funding costs will continue to drag on margins.”

Australian banks are also finding less domestic demand for loans, especially in home mortgages, partly because government programs subsidising first time home buyers have now expired.  Additionally, business borrowing has remained relatively flat.

The fact that there is lower demand for bank loans and that it simultaneously costs more for banks to raise money to fund those loans is putting a longer-term squeeze on bank profit margins.  One solution for banks is to increase lending costs to borrowers, even if the rates set by Australia’s central bank, The Reserve Bank of Australia (RBA), do not move.  Politically, though, this would not be popular and the market might not bear it either.

  1. How are Australian bank profit margins linked to the interest rate on loans they make to consumers and businesses?
  2. Do bank loan interest rates always follow official ‘cash rates’ set by the RBA?  Why or why not?
  3. Assess the following statement, using economic theory: “High banking profits are good for the Australian economy.”
  4. How would you describe the near-term outlook for the Australian banking sectors’ supply and demand for funds?
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