Ministers back rules to allow smaller financial institutions access to cheaper capital
Jonathan Milne
Dr John Small last changed banks 15 years ago, and it was not too hard.
“We managed. It was definitely worth it. I probably should have done it again, in five yearly intervals since then, but have not yet.”
The Commerce Commission Chair wants New Zealanders to keep the banks on their toes by regularly changing as they do with power retailers or phone providers – and in particular, he would like to build up publicly-owned Kiwibank into a “maverick disruptor” that can take on the oligopoly of the Big Four Australia-owned banks.
Breaking the Oligopoly
Will he shift his own banking to Kiwibank?
“It is a possibility, I am up for it. We need to break the big four out of this equilibrium that they are in. And we need that to happen on an ongoing basis,” he said.
Small sat down to talk with Newsroom after the Commerce Commission delivered its draft report on competition in personal banking this week, which found the big banks are unable to satisfactorily explain “persistently high profits.”
He does not accept their claims that cashed-up banks are more secure banks and are less vulnerable to collapses like Silicon Valley Bank, Signature Bank and Credit Suisse. Small agrees solid capitalisation is important but not high profits.
The report has found that New Zealand banks are delivering their Australian shareholders greater return on equity and return on capital, than comparable banks around the world.
He said that there have been challengers previously.
Twenty years ago, ASB was such a challenger.
“It was on a real growth tear, and it was just going for market share. And that was seriously disrupting. It was seen as this maverick. That stimulates competition. But ASB does not behave like that anymore. They have fallen into the same patterns of behaviour that we see here. So we need new maverick banks that really shake things up.
Kiwibank as the Disruptor
“We are hoping that Kiwibank will be that disruptor in the first instance, and then open banking will come along with more enduring prospects of greater disruption.”
The report has been welcomed by Commerce Minister Andrew Bayly.
“Clearly, the big banks are making considerable amounts of money in New Zealand, from New Zealanders. We are keen to make sure that as much competitive pressure as possible can be brought to bear, to make sure New Zealanders are not paying more than they ought to. You have got a market that is 90% controlled by four banks. The only logical market disruptor is Kiwibank,” Mr Bayly said.
But that would need billions of dollars of capital – and right now, the government’s priorities for that money are health and education. That is why Bayly agrees giving smaller banks access to their own cheaper capital would help when the government reviews the Reserve Bank Act.
Internal risk modelling
In the prudential rules, the Reserve Bank sets down how much capital a bank must hold against a particular type of loan. And the rules apply to all banks, except those that have been accredited to do their own internal risk modelling.
There are only four banks accredited to do their own internal risk bond modelling, and it is the majors. And when those banks do their internal risk modelling, says Small, they end up getting a significant discount off the standard rules.
They assess their own risk as 25% lower. The Reserve Bank did not buy it; It allowed them only a 15% discount. But even that means they can hold 15% less capital than other banks and financial institutions.
For those who do not get that discount, Small says that they have to get that additional capital from somewhere. “So that hampers the growth of your loan book, which hampers innovation, which hampers all sorts of stuff.”
Protecting stability
Reserve Bank Deputy Governor Christian Hawkesby said that its policies are designed to protect and promote the stability of New Zealand’s financial system by addressing prudential risks, while also considering competition, compliance cost, and the diversity of the deposit-taking sector.
“We aim to ensure that we apply a proportionate approach to designing rules for deposit takers, and do not adopt a one size fits all approach. This was a key consideration when conducting our review of the capital adequacy rules for locally incorporated, registered banks in New Zealand,” he said.
Given the concerns expressed by smaller banks and other lenders about the lack of access to funding, Newsroom asked him what areas he sees potential for the Reserve Bank to explore greater access to funding for them.
Hawkesby replied: “We will be reviewing the Commission’s draft report before deciding how to respond.”
Bayly’s experience in banking
Andrew Bayly is a former financier, who previously worked for the big banks; so he is very familiar with the Reserve Bank’s Capital Adequacy Ratios, and its Exchange Settlement Account System (ESAS) for processing and settling payments between banks and other financial institutions.
ESAS account holders can put money on deposit with the bank, at very competitive rates. Essentially risk-free call accounts. Direct access is closely guarded for security and financial stability reasons – but the Reserve Bank is considering opening access more widely.
“I used to be a money market dealer and have nightmares about whether to put money on deposit overnight. I would wake up at two o’clock in the morning and say, did I put that $100 million on deposit overnight with the Reserve Bank?”
He does not bank with Kiwibank and would not say whether he will consider switching to the publicly-owned bank. But he acknowledges the pressure that can be brought by New Zealanders switching.
“There is $40 billion of money sitting in people’s savings accounts and current accounts and that is where hopefully, in time, you might see a bit more competition,” he said.
That competition could be from Kiwibank, that could be from smaller banks, which could be from smart new fintechs. Those fintechs are struggling to get in place – sometimes they are not even allowed to open their own bank accounts, and they need APIs (Application Programming Interfaces) to access their customers’ bank data.
“That raises a wider question about who should own and control the transfer of data.”
Bayly said that he will take a Consumer Data Rights Bill to Cabinet in the next few weeks, to enable New Zealanders to manage their own banking data.
Reserve Bank’s Review
That will sit alongside Minister of Finance Nicola Willis’s review of the Reserve Bank and the prudential controls that give the big four banks cheaper access to capital.
And already, the Reserve Bank is part-way through an access review of its ESAS system to consider allowing more financial institutions to join up.
The Reserve Bank is balancing the risks again the benefits ESAS access brings, particularly around innovation and competition, and says it’s important it gets the policy right.
At present, there is a hold on processing applications from non-banks, including non-bank deposit takers like credit unions, building societies and finance companies, while the review is underway. The review is expected to be completed later this year, allowing the Reserve Bank to resume processing applications.
The Commerce Commission is scheduled to deliver its own final report into competition in personal banking in August, and Bayly says the Government won’t make any final decisions before then.
Depending on the report’s findings and recommendations, he indicates it may not be necessary to follow up with a Parliamentary Committee inquiry.
Select Committee Inquiry
The National-NZ First coalition agreement says that the new government will establish a Select Committee inquiry into banking competition with broad and deep criteria to focus on competitiveness, customer services and profitability.
But Bayly says that if the three parties of the coalition agree that it is no longer necessary, after the Commerce Commission report, the review of the Reserve Bank and the passing of the Consumer Data Rights bill, then they may not proceed with Committee inquiry.
Some years ago, Bayly did work for one of the big banks on streamlining processes for switching banks.
Would he too like to keep the big banks on their toes, by making it easier for New Zealanders to move from bank to bank?
“The role of government is to make the landscape as competitive as possible. We are working on trying to pull those levers already,” he said.
Commerce Commission research shows that it is easier to change banks than many people realise but Small and Bayly agree that encouraging customers to consider switching it only part of the solution.
“The process to switch banks, ultimately, is going to be initiated by the customer. And they have got to have a reason why they are going to move. They cannot just for the sake of it think that I am going to move.’ There has got to be some movement, perhaps around interest rates, or a new product,” he said.
Jonathan Milne is the Managing Editor of Newsroom Pro. The above article and images which appeared in the Newsroom have been reproduced under a Special Agreement.
