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How the banks get away with being bastards

On this occasion, when the discussion turns to retail banking matters, it may be instructive for the participants’ normal roles to be partly reversed so that the Reserve Bank could question the parliamentarians.

It would be enlightening for the broader community if the Chairman of the Payments System Board were to ask the parliamentarians on both sides about their unalloyed welcome of the banking industry’s ‘agreement’ to embrace a ‘social obligation’, including making generally available bank transaction account facilities free of direct charge.

The focus of the political ‘debate’ over this development was about who deserved the most credit for it — in circumstances where eventually only the timing of the rollover by the banks was unexpected.

For the record, I would call this race in favour of Her Majesty’s Opposition. Among other things, it clearly backed the winning horse when drafting a dissenting minority report to the outcome of the bank fees inquiry conducted by the Parliamentary Joint Statutory Committee on Corporations and Securities. More importantly perhaps it commissioned a consultant report titled “Financial Exclusion” that was an exceptionally persuasive piece of advocacy for the free-for-the-needy view.

Concurrently the credit-card ball was punted to the Reserve Bank by the ACCC.

Probably nothing of substance will be heard about banking policy before the election. The 11 May hearing with the RBA will, accordingly, studiously avoid substantial discussion of retail banking issues but probably yield to the temptation of a little hubris on both sides of the table.

PREAMBLE

An embryonic commitment to properly reform the retail banking industry in Australia has been aborted following a dramatic shift in the Australian political climate recently.

The banking industry was alert. It quickly about-faced to accept a vague, new commitment to ‘social obligation’ on access to, and fees for, retail banking services across the community. The banks’ conversion was convenient to both major political parties. The wider community probably believes the banks have been pulled into line.

The banking authorities were also alert. A messy confusion of power and authority between the Reserve Bank and the Australian Competition and Consumer Commission was quietly ‘resolved’. The ACCC abandoned its prosecution of the banks for price-fixing credit cards and the Reserve Bank agreed to ‘designate’ bank credit card schemes as a prelude to direct regulation of credit card pricing and participation arrangements. This regulatory ‘deal’, incidentally, was the subject of media releases by both these regulatory agencies on the eve of the Easter holiday break — a remarkable choice of timing.

As a policy issue that may have generated some thoughtful political input in the run-up to an end-year election, ‘banking’ has now been taken off the political agenda. The reformers, albeit always reluctant, have backed away.

No one is surprised. Few are concerned. Many should be. It is poor form.

This run of events is inimical to good government and good policy-making. Perhaps the ACCC could be given an additional brief to protect competition in the industry of politics.

POLICY BREAKDOWN

The same Parliament that so recently put the Reserve Bank (and its new Payments System Board) in charge of competition and efficiency in the retail payment system, declined to even ask the Reserve Bank for advice about how basic banking services might best be provided on concessional terms to those in the community eligibly in need.

The Parliament appears not to have respected its own legislation. The legislators on both sides of this Parliament pursued and took an easy way out rather than show the leadership needed to resolve a difficult issue properly.

In the normal course such a predictable consequence of democratic political convenience is offset by independent public policy agencies charged to ensure that the ‘right thing’ is done anyway. Not so here.

The ‘independent’ Reserve Bank has said nothing on the record about the political override of its newly granted authority to oversee the promotion of competition and efficiency in the retail banking industry. This notwithstanding that a convenient industry and political backdown has setback the prospects for needed retail banking reform. Still no one could ever have said that the Reserve Bank was committed to making the retail banking industry either efficient or competitive — and that is unlikely to change. The portents here were never good.

It is notable on this score that the UK government has accepted that the (Reserve) Bank of England, also preoccupied with ‘bank safety’, cannot be expected to properly pursue competition and efficiency reforms in the retail banking industry. The UK government has announced its decision to reconstitute the Office of Fair Trading (the competition regulator) with a specific focus on banking industry competition. Similarly in the European Commission, responsibility for banking competition policy has been allocated to the competition regulator rather than the central bank.

Last December, when asked if the ACCC should be represented on the Payments System Board, the Reserve Bank said “no”. Last December, the UK government effectively said, conversely, that the ACCC should have the responsibility for regulating competition and efficiency in the retail banking industry.

As this year unfolds it may be possible to compare attitudes to reforming retail banking — especially bank credit card schemes — in Australia with those in the UK and Europe more generally. Mr Fels at least will be watching these developments with interest.

WHAT HAPPENED?

What happened was predictable.

(a) bank charges

The Australian community apparently has an historic entitlement to ‘free’ transaction services from banks.

There is a list of (former) politicians that questioned that belief and otherwise condoned banks charging explicit fees. Live-politicians avoid this ‘list’ and more sensibly ‘remind’ the banking industry of its social obligations, developing remedial programs (i.e. threats) for recalcitrant banks intent on charging explicit fees. Both major political parties did exactly that this year — and the banks accepted ‘defeat’ and rolled over when the political tide turned.

In the face of this political convenience the Reserve Bank — the ‘responsible’ authority — said nothing.

(b) credit card schemes

Over many years the Reserve Bank could hardly have made it clearer that it did not wish to embroil itself in the debate about bank fees.

However, instead of accepting that attitude, in 1998 the Parliament gave the Reserve Bank a new Payments System Board and responsibility for competition and efficiency in the payment system, among other things. Even after it was given this policy responsibility for banking ‘pricing’ matters, the Reserve Bank continued to wriggle out of it, suggesting either the ACCC or ASIC do the job. In mid-2000 both these agencies said, publicly, that they did not have the authority to regulate bank fees, but that the Reserve Bank did.

The ACCC did launch a prosecution of banks for price-fixing in credit card schemes but, without clear legislation, it was destined to be frustrated in the courts. Eventually the ACCC decided to give up the price-fixing prosecution provided the RBA would take on the job.

And that recently came to pass — the RBA has said it will ‘fix’ the credit card system by the end of 2001.

WHAT IS WRONG WITH ALL THAT?

(a) bank fees

The unwritten rules of the game are that banks can charge (or not charge) what they like for banking services provided only that ordinary people neither understand how banks do it nor how much banks charge.

Again willingly embracing the risk of labouring the obvious,

There is something not quite right, fair or sensible, about a political tenet that bank transaction services alone are an ‘essential service’ that the community generally is entitled to use ‘free of charge’ — not postal services, nor telephone services, nor transport, nor life-saving drugs, nor bread or milk.

The belief in ‘free’ banking only extends as far as charges may be levied explicitly on consumers. The corollary is that what consumers do not know or don’t understand cannot hurt them. Importantly, the ‘belief’ has never extended effectively to a range of network transaction services (credit cards, BPay etc.) for which consumers are charged indirectly and, on the authorities own assessment, have long been charged excessively in terms of an illegal price-fixing agreement that has been unable to be prosecuted effectively. (It is apparently not on the ACCC list of duties to ‘warn’ the Parliament that its anti-trust powers may be deficient.)

Providing bank transaction services is of course not free of cost. Providing the services free of charge means that the ‘cost’ is recovered by banks in other ways, particularly under-paying interest on deposits and overcharging interest on loans. Who actually pays for ‘free’ transactions and how much is accordingly confused and being out of sight is conveniently put out of mind.

The banks’ recent acceptance of a ‘social obligation’ is not sincere because it was politically imposed and it comes at a political price. The banks are, inappropriately, authorised by Parliament to levy ‘taxes’ on some customers and disperse ‘subsidies’ to other customers. (So much for budget honesty). That political compromise in turn condones collusive banking industry behaviour, including about ‘pricing’ and ‘not pricing’ banking facilities.

An emerging chance to break out of this inappropriate situation has been passed up.

(b) credit card schemes

A figure of $1 billion is well in the ballpark as an indicator of the annual ‘take’ by banks as a result of inappropriate pricing in transaction network schemes for credit card, BPay and ATM and EFTPOS transactions.

The attendant misbehaviour of banks has been clearly understood by the banking and competition authorities for many years but no effective corrective action has been taken and no clearly effective powers have been sought from the Parliament. In the latest round, a further four years have now elapsed since the Wallis Committee clearly said that credit card schemes were against the public interest. Further delay — unfairly ‘earning’ banks $1 billion per annum — is in prospect before the Reserve Bank makes it’s decisions. And the game could go on as the Reserve Bank’s decisions are subject to judicial review.

The point at which the community would be entitled to protest such political and administrative bumbling has well and truly passed.

And more is yet to come.

When the Reserve Bank, after another ‘extensive consultation process’, finalises its regulatory proposals for credit card schemes later this year it will be too late to complain about the banks being again given very soft handling by a regulator preoccupied with banks’ comfortable profitability underwriting their solvency. The Reserve Bank, primarily responsible for the October 2000 official report on credit cards, foreshadowed in that report what it will regard as appropriate criteria for costing and setting interchange fees for credit card transactions. The community has grounds for concern about the Reserve Bank’s stated intentions.

The time to complain is now — or at least shortly after the election.

The appropriate starting point for policy on any industry price-fixing agreements is a blanket prohibition, except as the industry obtains prior approval that a pricing agreement would be necessary in the public interest. It is not essential that banks continue to have the benefit of an agreement on the setting of substantial, uniform interchange fees in the credit card transaction network. Banks participating in credit card schemes could recover their costs directly from retailers and cardholders.

For starters, the concept of “free credit” (and other ‘reward’ giveaways) as a cost to be recovered in pricing credit card transactions should be eschewed from any regulatory approval of uniform pricing agreements. So also should “costs of fraud” associated with counterfeited ‘signatures’ — a redundant transaction authorisation technology.

The community also has reason to be concerned about the Reserve Bank’s intentions to deal with ‘credit card schemes’ separately from the broader range of consumer electronic transaction facilities. Among other things the so-called ‘credit card’ is best assessed as redundant, contrived and inferior relative to customers’ debit cards, save only for the addition of an overdraft, line of credit. Equally contrived is the required conduct of a separate credit card ‘account’ for customers to perform certain (high-fee) transactions over the telephone or internet.

More generally, what does the Reserve Bank intend to do about the banks’ BPay scheme that has look-alike, transaction interchange fee arrangements? Also, when does the Reserve Bank intend to press its view that interchange fees in the EFTPOS ‘debit card’ system are inappropriate?

WHAT WOULD BE BETTER?

It might be hoped that those involved in the policy debate about retail banking started to say what they really believe would be in best long-term interests of the Australian community. This hope includes the Reserve Bank.

What those involved sensibly believe is unlikely to include either ‘free banking’ or uniform interchange fees that include avoidable ‘costs’ for an inferior product.

(a) fee free banking

The concept of “fee free” bank transaction services has no proper place in sound, long-term policy for the banking industry.

Only politicians with their fingers crossed would say that it does. The Reserve Bank knows better than this and it has a responsibility to speak up — but it does not.

Of course, government may fairly decide that some customers are entitled to use basic banking facilities free of cost to them but, if so, the cost of banks providing those services as part of a social security safety-net would preferably be met directly by government from budgeted expenditures. Levying hidden ‘taxes’ and disbursing un-costed ‘subsidies’ on behalf of government is no legitimate function of a competitive commercial enterprise. It’s not. These issues should not be buried or otherwise hidden in a cheap political deal — even a bi-partisan deal.

As things stand, not only are the ‘needy’ to be given access to basic banking services free of charge — but the rest of the (non-needy) customers will also continue to have generous access to banking facilities ‘free of charge’. The best that can be said for the recent change is that it is presumably the better-off bank depositors and borrowers that will now wear the hidden cost of subsidising access for the needy. But that is an imperfect solution to a problem worth fixing properly, differently. Moreover the ‘needy’ will presumably continue to pay retail ‘cash’ prices loaded to recover the excessive, hidden fees associated with credit cards and other network transaction schemes that they rarely use.

At least the Reserve Bank could now be asked about the appropriateness of banks ‘agreeing’ to provide transaction services free of explicit charge across very broad classes of their customers. At best, the Reserve Bank would also be asked about its decision not to speak out on a political/industry consensus of importance in an area of its responsibility and which it would (and should) regard as inappropriate.

(b) credit card reform

The die is now cast for the ‘reform’ of credit card schemes in Australia. Leaving the RBA as lead manager of the process is a gamble that few other countries would take. One can only wait with trepidation for the formal codification of a decision that the RBA has already sketched out — while hoping that a wind of commonsense will blow from Europe.

END PIECE

For cant and hypocrisy it is hard to beat the retail banking regulators.

The hyperbole accompanying the recent regulatory backing and filling about ‘fixing’ the rorting associated with bank credit card schemes had all the familiar hallmarks. Not least the pious references by the ‘reforming’ regulators to expected growth in the number of participants issuing credit cards.

The community has been fed this line about expected new competition in providing retail transaction services for the past two decades. Not only has such new competition not eventuated, the retail banking industry has become ever more concentrated with ongoing pressure for big-bank mergers.

The ‘promise’ will not be realised this time either. The ‘promise’ has no substance. This is a false promise. There will be no substantial new issuers of credit cards. Repeat, there will be no substantial new issuers of credit cards — and no one would sensibly believe otherwise. We are misled.

The apparent failure of the banking regulators to understand why beggars belief.

Both the Reserve Bank and the ACCC seem to be saying that if only the membership rules for the Visa and MasterCard schemes were changed to admit ‘non-banks’ as members, then some ‘non-bank’ companies with national retail distribution networks would rush to issue credit cards. That is most unlikely to be so.

Banks with well established access to substantial transaction account deposits on which, effectively, no interest is paid are uniquely advantaged in the provision of all transaction facilities be they credit cards, debit cards, cheques etc.

Unless and until the unique (and government protected) access of only the largest national retail banks to cheap deposits is corrected, there will be no new entrants into the retail transaction industry.

There will be no substantial non-bank Visa and MasterCard issuers even if the membership rules for the schemes were relaxed to allow it.

On the contrary, there is more likely to be fewer Visa and MasterCard issuers once interchange fees are reduced. Bank spokesmen gave the truer assessment of prospects for ‘numbers’ of credit card issuers. They said smaller banks (including credit unions and building societies) now issuing these credit cards would find the business much less attractive once the interchange fees were reduced, (even by as little as the Reserve Bank is likely to propose).

The major banks in Australia have always run the credit card game in their own interest. It suited them to create a situation (sham competition) where it was useful for small players to be seen to issue credit cards and enjoy an attractive interchange fee. A fee, incidentally, effectively considerably less than that taken by the major banks that also dominate the transaction acquirer business (and thus pick up the ‘floating’ 0.4% commission paid for credit card transactions acquired electronically. This ‘floating’ commission fits with the arrangement in Australia for an interchange free to be paid by issuers of debit cards to the acquirers of EFTPOS transactions.)

It is very likely that the relative importance of credit-card issuers other than the major banks has declined markedly since the mid-1990s because attractive loyalty rewards could only be attached only to credit cards issued by the major banks. Perhaps the Reserve Bank could be asked to update the relevant statistics on the distribution of credit card business that were first published in an article in the Reserve Bank Bulletin in May 1995.

This sorry saga has a way to go.

BANKING BACKDOWN Context Next Friday, 11 May, the Governor of the Reserve Bank will appear before the ‘Banking Committee’ (House of Representatives’ EFPA Committee).

On this occasion, when the discussion turns to retail banking matters, it may be instructive for the participants’ normal roles to be partly reversed so that the Reserve Bank could question the parliamentarians.

It would be enlightening for the broader community if the Chairman of the Payments System Board were to ask the parliamentarians on both sides about their unalloyed welcome of the banking industry’s ‘agreement’ to embrace a ‘social obligation’, including making generally available bank transaction account facilities free of direct charge.

The focus of the political ‘debate’ over this development was about who deserved the most credit for it — in circumstances where eventually only the timing of the rollover by the banks was unexpected.

For the record, I would call this race in favour of Her Majesty’s Opposition. Among other things, it clearly backed the winning horse when drafting a dissenting minority report to the outcome of the bank fees inquiry conducted by the Parliamentary Joint Statutory Committee on Corporations and Securities. More importantly perhaps it commissioned a consultant report titled “Financial Exclusion” that was an exceptionally persuasive piece of advocacy for the free-for-the-needy view.

Concurrently the credit-card ball was punted to the Reserve Bank by the ACCC.

Probably nothing of substance will be heard about banking policy before the election. The 11 May hearing with the RBA will, accordingly, studiously avoid substantial discussion of retail banking issues but probably yield to the temptation of a little hubris on both sides of the table.

PREAMBLE

An embryonic commitment to properly reform the retail banking industry in Australia has been aborted following a dramatic shift in the Australian political climate recently.

The banking industry was alert. It quickly about-faced to accept a vague, new commitment to ‘social obligation’ on access to, and fees for, retail banking services across the community. The banks’ conversion was convenient to both major political parties. The wider community probably believes the banks have been pulled into line.

The banking authorities were also alert. A messy confusion of power and authority between the Reserve Bank and the Australian Competition and Consumer Commission was quietly ‘resolved’. The ACCC abandoned its prosecution of the banks for price-fixing credit cards and the Reserve Bank agreed to ‘designate’ bank credit card schemes as a prelude to direct regulation of credit card pricing and participation arrangements. This regulatory ‘deal’, incidentally, was the subject of media releases by both these regulatory agencies on the eve of the Easter holiday break — a remarkable choice of timing.

As a policy issue that may have generated some thoughtful political input in the run-up to an end-year election, ‘banking’ has now been taken off the political agenda. The reformers, albeit always reluctant, have backed away.

No one is surprised. Few are concerned. Many should be. It is poor form.

This run of events is inimical to good government and good policy-making. Perhaps the ACCC could be given an additional brief to protect competition in the industry of politics.

POLICY BREAKDOWN

The same Parliament that so recently put the Reserve Bank (and its new Payments System Board) in charge of competition and efficiency in the retail payment system, declined to even ask the Reserve Bank for advice about how basic banking services might best be provided on concessional terms to those in the community eligibly in need.

The Parliament appears not to have respected its own legislation. The legislators on both sides of this Parliament pursued and took an easy way out rather than show the leadership needed to resolve a difficult issue properly.

In the normal course such a predictable consequence of democratic political convenience is offset by independent public policy agencies charged to ensure that the ‘right thing’ is done anyway. Not so here.

The ‘independent’ Reserve Bank has said nothing on the record about the political override of its newly granted authority to oversee the promotion of competition and efficiency in the retail banking industry. This notwithstanding that a convenient industry and political backdown has setback the prospects for needed retail banking reform. Still no one could ever have said that the Reserve Bank was committed to making the retail banking industry either efficient or competitive — and that is unlikely to change. The portents here were never good.

It is notable on this score that the UK government has accepted that the (Reserve) Bank of England, also preoccupied with ‘bank safety’, cannot be expected to properly pursue competition and efficiency reforms in the retail banking industry. The UK government has announced its decision to reconstitute the Office of Fair Trading (the competition regulator) with a specific focus on banking industry competition. Similarly in the European Commission, responsibility for banking competition policy has been allocated to the competition regulator rather than the central bank.

Last December, when asked if the ACCC should be represented on the Payments System Board, the Reserve Bank said “no”. Last December, the UK government effectively said, conversely, that the ACCC should have the responsibility for regulating competition and efficiency in the retail banking industry.

As this year unfolds it may be possible to compare attitudes to reforming retail banking — especially bank credit card schemes — in Australia with those in the UK and Europe more generally. Mr Fels at least will be watching these developments with interest.

WHAT HAPPENED?

What happened was predictable.

(a) bank charges

The Australian community apparently has an historic entitlement to ‘free’ transaction services from banks.

There is a list of (former) politicians that questioned that belief and otherwise condoned banks charging explicit fees. Live-politicians avoid this ‘list’ and more sensibly ‘remind’ the banking industry of its social obligations, developing remedial programs (i.e. threats) for recalcitrant banks intent on charging explicit fees. Both major political parties did exactly that this year — and the banks accepted ‘defeat’ and rolled over when the political tide turned.

In the face of this political convenience the Reserve Bank — the ‘responsible’ authority — said nothing.

(b) credit card schemes

Over many years the Reserve Bank could hardly have made it clearer that it did not wish to embroil itself in the debate about bank fees.

However, instead of accepting that attitude, in 1998 the Parliament gave the Reserve Bank a new Payments System Board and responsibility for competition and efficiency in the payment system, among other things. Even after it was given this policy responsibility for banking ‘pricing’ matters, the Reserve Bank continued to wriggle out of it, suggesting either the ACCC or ASIC do the job. In mid-2000 both these agencies said, publicly, that they did not have the authority to regulate bank fees, but that the Reserve Bank did.

The ACCC did launch a prosecution of banks for price-fixing in credit card schemes but, without clear legislation, it was destined to be frustrated in the courts. Eventually the ACCC decided to give up the price-fixing prosecution provided the RBA would take on the job.

And that recently came to pass — the RBA has said it will ‘fix’ the credit card system by the end of 2001.

Check out part II in our special dossier series to see what is wrong with all of that.

Peter Fray

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