A Modelling Framework for Analysing the Role of Superannuation in Australia's Financial System
JASON NASSIOS, JAMES A GIESECKE, PETER B DIXON AND MAUREEN T RIMMER, CENTRE OF POLICY STUDIES, VICTORIA UNIVERSITY
21 November 2016
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This paper investigates the implications of an expanded superannuation system for the Australian financial sector. We undertake detailed modelling of capital adequacy requirements imposed upon the Australian commercial banking sector under Basel III regulations, and the behaviour of the Reserve Bank of Australia. We find that an increase in the Superannuation Guarantee drives important short-run structural shifts within the Australia economy: the commercial banking sector expands, while the ratio of debt-to-equity used to finance the residential housing stock rises, and Australia’s foreign financing requirement falls.
In line with previous working papers in this research cluster project, we examine the effects of an expanded superannuation sector. Our focus here is on the effects of this expansion for other financial intermediaries (particularly the commercial banks), along with other structural implications. We decompose the effects of the expansion in the superannuation sector into two parts:
- the intermediation effect, representing the effects of a rise in the proportion of a given level of national savings that is intermediated by the superannuation sector rather than allocated across financial instruments by the household sector directly
- the savings effect, representing the idea that a rise in the superannuation contribution rate might raise the national savings rate through its effect on the savings rates of those households who would have saved less if not for the influence of compulsory superannuation.
As we show, the savings effect generally acts to reduce the weighted-average cost of financial capital (WACC) for all financial agents. In contrast, the intermediation effect drives some important structural changes, which persist when combined with the impact of the savings effect. Our results are briefly summarised below.
- We observe an event-year expansion in both the outstanding financial liabilities and risk-weighted assets of the commercial banks due to intermediation. The commercial banks therefore benefit from an increase in the Superannuation Guarantee rate via the intermediation effect (as their general level of activity rises), whether or not the national savings rate also increases.
- The movement in the WACC of commercial banks due to the intermediation effect is the realisation of both a supply-side effect (which dampens their WACC, because superannuation funds invest a greater proportion of the financial asset portfolio in commercial bank liabilities relative to households), and a demand-side effect (which places upward pressure on the WACC of commercial banks, as they expand the liability side of their balance sheet to fund an expansion in the demand for loans). We find that the demand-side expansion dominates, and the WACC for commercial banks rises due to the intermediation effect.
- The increase in intermediation of household savings drives a reduction in the supply of equity capital to the non-reproducible and reproducible housing agents. This finding has important implications for the capital structure of the residential housing sector in response to expanded household savings intermediation, namely, increased intermediation drives the debt-to-equity ratio higher.
- The savings effect increases the supply of equity finance to the housing sector. However, this increase is insufficient to offset the rise in the debt-to-equity ratio of the residential housing sector due to intermediation.
- The combination of the intermediation and savings effects drive an unambiguous reduction in Australia’s foreign financing requirement. With both the savings and intermediation effects moving the balance of trade to GDP ratio (and thus the current account deficit to GDP ratio) in similar ways, our research supports assertions by ASFA that a rise in the Superannuation Guarantee rate (that is, the combined savings and intermediation effects) reduces Australia’s foreign financing requirement.
We have explored the structural implications of a rise in the Superannuation Guarantee rate in Australia. Some of the implications of a rise in intermediation were determined by analysing the VU-Nat model’s financial stock database. This analysis yielded two main assertions: first, we identify that the commercial banks would experience a short-run benefit from an increase in the size of Australia’s superannuation sector via an increase in the supply of financial capital; and second, we determine that they would also benefit via an increase in the demand for loan finance from the residential housing sector.
The output of a simulation from VU-Nat showed a stronger demand-side response arises due to intermediation, which increased the WACC of commercial banks. Together with a fall in the supply of equity finance from households as more of their savings are channelled into superannuation, this depressed dwelling and non-dwelling investment. This response was in contrast to our previous work (see Giesecke et al. ), where housing investment expands in response to an equivalent increase in the Superannuation Guarantee rate, due to a fall in the real producer wage. In this paper, the central bank acts to stabilise movements in the domestic price level and employment, which mutes the real producer wage and employment response due to intermediation, relative to that reported in Giesecke et al. This finding suggests that some scope exists for the central bank to neutralise (via adjustments in the cash rate) intermediation effects that materialise via event-year movements in the price level.
We also elucidate the intermediation-induced impact on the capital structures of both the reproducible and non-reproducible housing sectors; namely, an increase in debt relative to equity. This impact is shown to persist when we also account for the savings effect. As a result, we determine that the debt-to-equity ratio of the residential housing sector is likely to rise in response to an increase in the Superannuation Guarantee rate. Finally, we find some evidence that both the intermediation and savings effects act to reduce Australia’s foreign financing requirements. In future work within this body of research, we intend to explore the implications of these structural shifts on macroeconomic stability.
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