The Australian regulator's decision to allow borrowers to defer repayments by another four months will help cushion the blow of the COVID-19 pandemic on them, though its impact on banks' earnings will be known only later, analysts said.

The Australian Prudential Regulatory Authority on July 8 extended its temporary capital treatment for bank loans with repayment deferrals and adjusted the capital treatment for loans with modified or renegotiated terms to a maximum period of 10 months. Customers who can restart paying their loans will be required to do so at the end of the initial six-month deferral period on Sept. 30. But borrowers with reduced incomes and ongoing financial difficulty due to the novel coronavirus outbreak can seek a four-month extension.

Australia expects the economic slowdown due to the pandemic to linger and its unemployment rate may rise closer to 8% by September, which may lead to a rise in bad loans once the moratorium ends. That would pressure the local banks' capital position and profits that are already facing the drag from significant increases in credit provisions, falling interest rates and subdued credit growth. The jobless rate rose to 7.1% in May from 4.9% at the end of December 2019, according to government data.

Sharad Jain, an analyst at S&P Global Ratings, said the effect of the disease on Australian banks' asset quality will become clearer when the loan repayment moratoriums end and the government reduces its fiscal support. "A number of highly leveraged households and businesses are likely to struggle to meet their financial obligations at that time, in our view," Jain said.

Meanwhile, the extension may give banks greater flexibility in managing potential losses as they would not have to treat deferred loans as being in arrears. Australia's major banks expect that many customers will be able to start making repayments when the current moratorium ends.

"We anticipate that a significant number of customers will be able to resume regular repayments when their deferral term ends," Westpac Banking Corp. acting CFO Gary Thursby said in a July 8 release. Australia & New Zealand Banking Group Ltd. CEO Shayne Elliott said many customers found that their income has not been as impacted as they first thought and are already back making repayments.

"This next phase of bank support will avoid a 'cliff' for customers in September and give them the breathing space they need to work with their bank and get back on their feet financially," said Anna Bligh, CEO of the Australian Banking Association.

Data from the banking industry association show that banks had accepted nearly 780,000 requests for deferrals for a total of A$236 billion in loans deferred as of June 19. Of that, more than 485,000 were mortgages deferred. The association paused collecting deferral data, but it showed that the rate of new requests for relief had leveled off.

Bell Potter analyst T.S. Lim said the deferral "is the price of doing business in Australia" for banks. "The banks are a proxy for the economy and stifling the economy would be counter-productive," he said in comments emailed to S&P Global Market Intelligence.

Banks have already increased their provisioning for these loans in anticipation of rising arrears and write-offs, while some customers are starting to repay their loans and most are still ahead in terms of repayments, Lim noted. "That would hopefully neutralize the impact of extending the loan holiday," he said.

S&P Global Ratings and S&P Global Market Intelligence are owned by S&P Global Inc.