Banking’s four-pillars policy redundant, claims watchdog

The Australian, February 7, 2018

The Productivity Commission has warned the federal government that tighter lending rules have ­allowed major banks to jack up rates on existing residential and business loans in a profit gouge that is not only now costing mortgage holders but slugging taxpayers by up to $500 million a year.

In a call for a competition shake-up in the financial sector, ahead of the banking royal commission due to begin next week, the government’s economic advisory body has also described the four-pillars policy that protects the big four banks as a redundant model that has failed to deliver greater competition for consumers and presided over a ­series of management failures.

It has called on the government to make it a priority to establish a new competition watchdog, claiming current regulators are too focused on rules to ensure ­financial stability since the global financial crisis, leading to declining competition for small- to ­medium-sized business and home lending.

A draft report of the commission’s inquiry into competition in the financial sector delivers a damning assessment, claiming the “revolution” in competition that brought new entrants such as Aussie Home Loans is over.

In a finding at odds with the government’s claims, the commission has found that recent intervention in the market by regulators such as the Australian Prudential Regulatory Authority to tighten lending, which the government has hailed as taking heat out of the property market, have in fact triggered a “collective” move by banks to raise rates.

“APRA’s actions to slow new lending in what it determined are higher-risk areas resulted in higher interest rates on both new and existing investment loans, boosted lenders’ profit on home loans, and saw a decline in competition from some smaller lenders in the home loan market,” the report says.

“Up to half of the increase in lenders’ profit was in effect paid for by taxpayers, as interest on investment loans is tax deductible. We estimate the cost borne by taxpayers as a result of changes in home loan investor rates following APRA’s intervention on interest-only loans in 2017 was up to $500 million per year (which may be partially offset by increased tax paid by the lending institutions on their profits).

“To be clear, it is completely unsurprising that, faced with the opportunity to reprice their loan book as a consequence of regulatory changes, banks did just that.

“But this additional impost, part of which (through the tax deductibility of interest on housing investment loans) is being paid now by all Australian taxpayers, was not an objective of the regulator and means that the intervention could have been better focused. Under current regulatory architecture, promoting competition requires a serious rethink about how the RBA, APRA and ASIC consider competition and whether the Australian Competition & Consumer Commission is well placed to do more than it currently can for competition in the ­financial system.’’

Productivity Commission chairman Peter Harris said the government needed to step in.

“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,” Mr Harris said.

The report says the benefits of competition to individuals and businesses “for whom the financial system exists are being reduced in the quest for stability”.

It says regulators have focused almost exclusively on ­prudential stability since the global financial crisis, promoting the concept of an “unquestionably strong financial system”.

The report is highly critical of mortgage brokers, claiming they lack a legal duty of care to customers. “Among other issues, the report finds some notable failings in competitive behaviour evident in markets of home loans and for small- and medium-enterprise (SME) finance,” it says.

“In home loan finance, the widespread use of published loan benchmarks that do not reflect actual practice, accompanied by the lack of a legal duty of care by mortgage brokers, means consumers can be left unaware of better deals available.’’

In a comment on the fundamental structure of the financial sector, the report cites an “absence of market discipline on major bank management failures under the four-pillars policy, and legislated restrictions on bank ownership”.

“Australia’s four-pillars policy … has been an underlying feature of the financial-system policy landscape throughout this period of considerable consolidation,” the report says.

“It is an ad-hoc policy that, at best, is redundant, as it simply duplicates competition and governance protections in other laws. At worst, in this consolidation era it protects some institutions from takeover, the most direct form of market discipline for inefficiency and management failure.

“Raising the cap on ownership would offer a greater threat of market discipline, without green-lighting mergers.”