Productivity Commission draft report slams uncompetitive banking sector
The Productivity Commission’s draft report into the financial sector has criticised the nation’s major financial institutions for exploiting an uncompetitive system and over-charging their commercial and consumer customers, adding up to $87 a month to the average mortgage repayment.
After stridently opposing greater scrutiny of the sector for years, the big banks finally called for a inquiry last November to head off mounting criticism of the sector, but while the Productivity Commission accepts the industry is “unquestionably strong” it calls for banks and insurance companies to offer greater transparency to help customers compare financial products.
The draft report also wants financial regulators to be given more power to promote competition, noting that competition is “less than desirable” in the market for home loans, credit cards, home insurance, wealth management and financial advice. Small businesses suffer a particularly raw deal, with the most uncompetitive markets in small business credit as well as lenders mortgage insurance, add-on insurance and pet insurance.
The Productivity Commission argues that the nation’s big four banks use their “substantial market power” to “pass on cost increases and set prices” without losing market share. The major banks have generated “substantial profits”, benefitting their shareholders rather than their customers, far in excess of their peers in other countries since the GFC.
Lack of competition leaves “loyal customers ripe for exploitation”
Regulatory changes affecting banks’ funding costs have not spurred greater efficiency. Instead the banks have used them as an excuse to increase charges all round. When the Australian Prudential Regulation Authority limited interest-only lending to 30% of new residential mortgage lending in 2017, for example, the banks seized on the opportunity to increase the interest rates on all interest-only loans, including existing loans.
While the Productivity Commission said the move was “completely unsurprising”, given their general pattern of behaviour, it noted that smaller banks could not win over dissatisfied customers because the new lending benchmark also applied to them. Up to half the boost in profits enjoyed by lenders was “in effect paid for by taxpayers”, as interest on investment loans is tax deductible, costing Australian taxpayers up to $500m.
The report said that barriers which inhibit mortgage payers from switching financial providers leaves “loyal customers ripe for exploitation”. The Reserve Bank had found that existing home loan customers pay 0.3% to 0.4% more in interest than people offered new home loans. “These higher rates are paid by around 15% of existing customers and equate to an extra $66 to $87 per month on the average home loan balance.”
The Productivity Commission also noted that a proliferation in mortgage brokers and other advisers “does not appear to have increased price competition”. Far from encouraging competition, “the revolution is now part of the establishment,” and “non-transparent fees and trailing commissions, and clear conflicts of interest created by ownership are inherent.”
The report warns that mortgage brokers “are not obliged by law to act in the best interests of the customer” and calls for such a duty be extended to the lender-owned aggregators and brokers who write 70% of broker mortgages.
The Productivity Commission warns that “no agency is tasked with overseeing and promoting competition in the financial system” and the current anti-competitive situation is the result of regulation which has persistently favoured stability over competition.
“We need one of the regulators to be appointed by government as the competition champion – to take primary responsibility for putting the case for competition inside what are otherwise closed shop discussions,” the chairman of the Productivity Commission, Peter Harris, said.
He said: “The early 2000s was the last time Australia’s financial system saw a period of fierce competition … If we are to see its like again, we will need a series of policy shifts, and a champion to own them.”
The report said the sector is characterised by a “large number of marginally different products” which are “more reflective of a capacity for price discrimination than of competition”.
The report suggests that Asic should develop an online tool to help consumers to calculate the true total cost of loans by comparing interest rates and fees across financial institutions and against median rates.
“We have recommended a 21st-century disclosure regime that leverages the benefit of consumer digital data to make actual real-world prices openly available to the consumer public,” Harris said.
The commission is welcoming submissions on the draft until the 20th of March and will conduct further public hearings in Sydney and Melbourne.
Ombudsman Reaction
Commenting on the draft report, the Australian Small Business and Family Enterprise Ombudsman Kate Carnell, agreed that Australia’s prudential rules have limited small business credit.
She argued that the current regime motivates banks to focus lending against real property security, such as a business owner’s home and increases the cost of capital on other lending, limiting the ability of SMEs to get funding against other business aspects, such as cash flow.
She said she had received “resounding feedback from the SME sector” that access to capital remains a significant barrier despite a healthy pipeline of businesses suitable for investment. Ms Carnell said ensuring small and medium enterprises have access to capital is a critical factor in their ability to grow and employ more Australians.
“Australia’s 2.2 million SMEs employ two thirds of Australian workers and contribute $380 billion to the economy. While there should be a focus on stability, any policy being developed needs to look at the impact and unintended consequences on lending to SMEs. If there is no access to capital, then you can’t invest.”
She also noted the report’s finding that institutional responsibility for supporting competition in the financial sector is loosely shared by the Australian Prudential Regulatory Authority, the Reserve Bank of Australia, The Australian Securities and Investment Commission and the Australian Competition and Consumer Commission. She warned this diffusion of responsibility created the “danger of inadequate oversight of commercial lending practices for SMEs.”
