APRA's Inaugural System Risk Outlook: Key Financial Vulnerabilities Identified

One of the primary concerns highlighted in the report is the escalating geopolitical risks. APRA emphasises that such risks have the potential to transmit through the financial system via multiple channels, potentially triggering disruptive events simultaneously. In response, APRA, in collaboration with other agencies on the Council of Financial Regulators, is strengthening the system's resilience through a dedicated geopolitical risk work program.

Another significant vulnerability identified is the high level of household debt. APRA notes that with interest rates having fallen, a strong labor market, and robust house price growth, there is a turning point in the financial cycle that could lead to a build-up of housing-related vulnerabilities. These include high debt-to-income and loan-to-valuation ratio borrowing, as well as an increase in lending to investors.

To address these concerns, APRA has proposed several measures to modernise the prudential framework on governance. After considering industry feedback, APRA plans to modify certain proposals to ensure they do not impose undue regulatory constraints on boards. This includes extending the tenure limit for non-executive directors from 10 to 12 years and removing a proposed requirement for significant financial institutions to engage early with APRA on responsible person appointments and succession planning.

In the banking sector, APRA has commenced consultation on a more accessible pathway for banks to use the internal ratings-based (IRB) approach to calculating credit risk-weighted assets. Additionally, formal consultation is set to begin on creating a third tier to the prudential framework for banking to embed additional proportionality and drive competition in the industry.

In the insurance sector, APRA has proposed updates to the reinsurance framework for general insurers to facilitate easier access to different forms of reinsurance. For life insurance, consultations are underway on changes to the capital framework for longevity products, such as annuities, to increase the availability of retirement products.

APRA's System Risk Outlook underscores the importance of proactive risk management and regulatory adaptation in maintaining the stability and resilience of Australia's financial system. By identifying and addressing these vulnerabilities, APRA aims to safeguard the interests of depositors, policyholders, and superannuation fund members.