The strength of the four major Australian banks on the international scene is acknowledged and proclaimed. This feature was expressed firmly by the Deputy Prime Minister in her speech to the World Economic Forum when she stated: ‘Australia has strong financial institutions. Of the 11 banks around the world that are rated AA and above, four of them are Australian. Australia has a AAA foreign currency rating’ (Gillard 2009). This statement raises questions as to why the major intervention incurred by the guarantees was deemed necessary. With few banks as strong as the four Australian majors, the claim about their need for support in raising international funds is not convincing, despite the harsh experiences during October and November 2008. Even less reason would there be to impose the market segmentation brought about by the domestic guarantees on deposits. Deposits were shifting to the four majors compared with lesser deposit-taking entities (RBA 2009: 29).

The decision on the guarantees supporting funding in international capital markets reflected the gross turbulence following the failure of Lehman Brothers in September 2008. Counterparty and settlement risks were at the heart of the gross dislocation. Hence, the decision to provide guarantees was aimed at settling international capital markets with respect to completion of transactions, though the capacity to fund remained a test of market liquidity. Insofar as the borrowings of the major banks are the means of funding shortfalls in the balance of payments on current account, there is a national interest to be served in bringing a strong measure of stability to these funding mechanisms.

Some further sense may be made of this drastic policy intervention if one allows the possibility that the Council of Financial Regulators had worries about the less well-placed financial institutions other than the four majors, and advised government accordingly. For deposit guarantees the evidence points to the superior position held by the four majors compared to other deposit-taking entities, including the building societies and credit unions. With the funding guarantees that nine banks took advantage of, the offering may be interpreted as some support for thinking the lesser-rated banks gained access to funds which would otherwise have been denied them. All the banks seized the distinct advantage in turbulent times of locking in funding for some years. Yet the policy initiative was an obvious gain for the less well-placed in the banking fraternity compared to the four majors, all of whom have been well to the fore with issuance.

Domestically, the placement of funds with the deposit-taking entities, whether as formal deposits or short-term wholesale funding, is relatively attractive when compared to other outlets because of the guarantee. We should bear in mind the impact of these measures on the relative standing of state governments in capital markets, where they stood less-well ranked than building societies and credit unions nourished by Australian Government credibility! Holders of state government securities were immediately handicapped because the values of these securities declined relative to those securities issued by guaranteed entities. This impact led to the later commitment to support from the Australian Government to ensure new issues being taken up by financial intermediaries and managed funds. The purpose of this step was to support the maintenance of capital spending by state governments.

But the priority achieved comes at the cost of the guarantee thus adding to the cost of funds. Hence, the scope for adjusting interest rates to match official cash-rate adjustments may be restricted, quite apart from any influences arising in international capital markets on the pricing of longer term wholesale funds.