New Zealand banks remain healthy to severe dairy industry: RBNZ

New Zealand's commercial banks have undergone stress tests to see how they might withstand the collapse of the country's pillar dairy industry, the Reserve Bank of New Zealand (RBNZ) revealed Wednesday.

The banking system was "robust to a severe dairy stress test," according to an article published in the RBNZ Bulletin on the day the average price on the Fonterra-run GlobalDairyTrade index fell by 2.9 percent to 2,190 U.S. dollars a tonne.

Low global milk prices were generating significant financial pressure for dairy farmers, with around half of the dairy sector experiencing a second straight season of operating losses, said the article.

Five banks that were the largest dairy sector lenders participated in an RBNZ-run stress test in late 2015 under two scenarios.

The first scenario assumed that the dairy payout to farmers recovered to 5.25 NZ dollars (3.47 U.S. dollars) per kilogram of milk solids - the estimated break-even point - by the 2017-2018 season and a fall in dairy land prices of 20 percent.

The second assumed the dairy payout was assumed to fall to 3 NZ dollars (1.98 U.S. dollars) in 2015-2016 and remain below 5 NZ dollars (3.30 U.S. dollars) until the 2019-2020 season with a fall in land prices of 40 percent.

Both scenarios assumed the dairy payout remained lower for longer than was assumed in the RBNZ's economic projections in March, RBNZ head of macro financial Bernard Hodgetts said in a statement.

"On average, banks reported losses under the two scenarios ranging between 3 to 8 percent of their total dairy sector exposures," said Hodgetts.

"Bank lending to the dairy sector stands at around 38 billion NZ dollars (25.1 billion U.S. dollars), which is approximately 10 percent of the banking system's total lending. We would expect losses of the order seen in the stress scenarios to be absorbed largely through lower bank earnings rather than through an erosion of bank capital."

The test results suggested that in the shorter term, banks would increase their dairy lending in order to support existing borrowers facing negative cash flow, before facing a longer term rise in loan losses if there were a prolonged dairy sector downturn.

Banks with large dairy portfolios remain resilient, well-funded, and well-positioned to continue working with dairy farmers through any further movements in dairy prices, the New Zealand Bankers Association (NZBA) said.

"Despite the current lows in the dairy cycle, the longer-term outlook for dairy and protein production remains positive. It's important to keep this bigger picture in mind and support our farmers during tough times, and that's exactly what our banks do," NZBA acting chief executive Antony Buick-Constable said in a statement.

Earlier this month, New Zealand dairy giant Fonterra Co-operative Ltd. cut its forecast payout to farmers this season from 4.15 NZ dollars (2.74 U.S. dollars) per kilogram of milk solids to 3.90 NZ dollars (2.58 U.S. dollars).

Opposition lawmakers said the cut would leave a "hole" of 8.2 billion NZ dollars (5.41 billion U.S. dollars) in the New Zealand economy.

Last week the RBNZ cut its official cash rate by 25 basis points to 2.25 percent, citing "difficult challenges" facing the dairy sector as one of its considerations. Endit