By Swati Pandey

SYDNEY, Oct 9 (Reuters)Australia’s financial system has the strength to withstand the nation’s large economic contraction and support the recovery even though risks are “elevated”, the country’s central bank said on Friday.

Risks to the financial system would be exacerbated by a weaker-than-expected economic recovery, stemming from further setbacks on the coronavirus-related health front or international political tensions, the Reserve Bank of Australia (RBA) said in its biannual Financial Stability Review.

Low levels of interest rates, loan repayment deferrals and a massive government stimulus have so far supported the economy, helping avoid defaults and business failures.

The RBA is widely expected to further lower its cash rate to 0.1% from a record low 0.25% at its November policy meeting. AU/INT

Earlier this week, Australia’s conservative government announced a larger-than-expected fiscal stimulus, including a new wage subsidy scheme, to support the country’s virus-ravaged economy.

Even so, the RBA expects business failures to rise and loan impairments to increase going forward.

“With unemployment having increased and many employees working reduced hours, the number of households experiencing financial stress has increased and will increase further,” the report said.

The potential for mortgage losses for lenders is also higher if distressed home sales increase.

“While credit is available at very low interest rates, reduced housing demand from very low immigration and the rise in unemployment contribute to the risk of further falls in housing prices,” the RBA added.

Over the first six months of 2020, the Australian economy contracted by over 7% under the weight of strict mobility restrictions to suppress COVID-19.

The unemployment rate has since risen from around 5% pre-COVID to near 7% with economists predicting it would jump to 10% in coming months.

The RBA was still confident the country’s banks could weather the storm.