Implementation and Review

52. Although it is possible to introduce the extended DGS using the Minister of Finance's existing Public Finance Act powers, this paper proposes introducing new legislation to give effect to the extended DGS. New legislation has the following advantages:

• Greater certainty for the end date of the DGS.

• More appropriate from a constitutional perspective, considering the size of contingent liability under an extension and given that Parliament is in session.

• Enables better management of Crown risk in respect of the guarantees.

53. Urgency is required for such legislation in order to give certainty to financial markets. Support from key support and opposition parties will be necessary.

54. This proposal is that legislation:

• Confirm the establishment of the current DGS and enable an extension of the DGS only until 31 December 2011, on terms and conditions including eligibility criteria the Minister of Finance considers fit.

• Provide permanent legislative authority for the cost of undertaking investigations, to make payments under guarantee and expenses incurred administering those claims.

• Ensure that any payments to creditors under the guarantees are debts due to the Crown from the guaranteed entity.

• Ensure such payments will be given the same priority as that held by the relevant creditor. The reason for this is that if the Crown does not pay out to depositors in full (e.g., if the individual has a deposit in a non-bank in excess of the $250,000 cap), this can have the result of the Crown loosing the priority it would otherwise have.

55. Given the urgency required, the Minister of Finance would seek authority from Cabinet to make further decisions on the detail of the legislation. If significant policy issues arise in drafting, the Minister of Finance will refer these back to Cabinet.

56. Provided the proposed legislative reform receives assent during the week of 14 September 2009, entities will be eligible to apply for the temporary extended DGS from late September 2009. This lead time will:

• Allow time for The Treasury to manage the re-application process, and issue deeds of guarantee for the extended DGS well in advance of the current DGS expiring. It is anticipated that applications could be made for entry into the extended DGS from late September 2009, and new deeds would be issued from late September/ early October 2009.

• This would provide most entities and depositors with certainty about whether they are in the Scheme approximately a year out from the current DGS's expiry.^[5]

57. The DGS will be extended for fourteen and a half months until 31 December 2011. It is our very strong presumption that it will not be extended beyond this period of time.

58. The Treasury will monitor and evaluate the overall performance of the extended DGS and whether it is meeting the government's fiscal, economic and stability objectives. The main information sources for monitoring are the monthly monitoring information from NBDTs in the DGS, letters to Treasury and Ministers, and media reporting. The RBNZ is contracted to monitor NBDTs in the DGS.

59. The monitoring of NBDTs focuses on asset quality, liquidity, the regulatory environment and general business practices. The RBNZ provides three types of standard report to the Treasury on a monthly basis based on the information collected from NBDTs:

• Monthly portfolio report.
• Individual high risk entity report.
• Sector based reporting (for finance companies, credit unions, building societies and the PSIS).

60. This monthly reporting would continue during the DGS extension period.

61. The Treasury will provide advice to the Minister of Finance of any issues with its performance and options for addressing any issues. The criteria that will be used to make this evaluation are whether the scheme is meeting the government's fiscal, economic and stability objectives. This will be done as part of The Treasury's regular economic reporting to the Minister of Finance (e.g. in the Trimester reporting to the Minister, and in the monthly customer focus report), during the fortnightly meetings with the Minister on Financial System Issues, and on an as needs be basis outside of those regular opportunities, for example through Treasury Reports.

62. The Crown currently has levers to manage risk to the Crown under the guarantee. Under the current deeds of guarantee the Crown is able to prevent or to require firms to remedy particular transactions such as distributions, material non-commercial transactions, and related party transactions; and remove the guarantee to limit potential future increases in the nominal exposure.

63. However, changes to be made under the new deeds under the extended scheme (not requiring legislation) would make improvements as follows:

• More active management levers: Considering restricting undesirable asset acquisition and deposit growth by introducing a requirement to seek authorization with contractual penalties for non-compliance (such as withdrawal of guarantee or financial penalty). This will need to be carefully defined and considered taking into account the risks to the Crown, and the capability and role of Government to make these decisions.

• Redefining trigger events for default so institutions entering statutory management would not necessarily be in default. This would mean the institution could potentially continue to trade to allow more time to consider resolution options. This change cannot be introduced into the current deed so will not be available prior to the extended DGS coming into affect.

• Change of control authorization requirement: Where a firm is in wind-down under the guarantee, there is a risk of a buyer entering the market with the aim of using the guarantee to rapidly build a deposit book. An explicit power could be granted to authorize (or provide ‘no objection' to) change of control under the guarantee, or else require re-application before change of control occurs. This could prevent firms being able to enter the market to exploit the guarantee.

64. These terms can also be introduced into the current guarantee deeds to have effect before October 2010. The Crown is also able to ensure appropriate contingency planning is undertaken to respond effectively to a default under the Scheme. However, an extended scheme provides a natural opportunity to issue revised deeds.