By Gareth Vaughan
New Zealand's big four banks grew combined annual profit by $601 million this year.
As reported in our Wednesday subscriber newsletter story, this combined 14% year-on-year increase from the Australian owned ANZ NZ, ASB, BNZ and Westpac NZ lifted their annual cash profit to $4.841 billion. That's equivalent to a bit over $1,000 for each of New Zealand's 4.7 million people.
Between them the four banks held $430.4 billion of total assets at June 30, with a combined 86% share of the loan market, and 88% deposit marketshare. As then-Reserve Bank Governor Alan Bollard put it in 2011, the four Aussie banks dominate the NZ financial system to an extent seen in few other economies, accounting for nearly 90% of the banking sector, or just over 70% of the financial system as a whole.
That means four foreign controlled banks, who paid their Aussie parent shareholders $2.68 billion in dividends last year, completely dominate the NZ financial landscape. There are financial stability ramifications in this. All four are heavily leveraged to Australasian housing, arguably one of the most overvalued assets around. And should the proverbial hit the fan, you can bet those in Canberra would expect the NZ taxpayer to bail the Kiwi offshoots of their banks out.
How do the big four maintain such dominance year after year? It's not as if there aren't any other banks in NZ. There are 24 banks registered with the Reserve Bank. Several of these, including the NZ owned Kiwibank, The Co-operative Bank, TSB and SBS Bank, offer standard retail banking services.
And over the past few years there've been an array of new competitors who were supposed to come in and eat the big banks' lunch. These include the tech giants such as Google, Apple and Facebook, peer-to-peer lenders like Harmoney, and China's massive state controlled banks, three of whom have entered the local market over recent years. To date none have materially dented the big four's marketshare.
Analysis from the Bank for International Settlements and interest.co.nz shows NZ's big four banks rank near the top of the pack across a range of profitability measures when compared to their counterparts from both advanced economies and major emerging economies around the globe.
Interestingly NZ First, which is now part of the Government in coalition with Labour, was calling for a review of banking competition ahead of September's election. The details of this were still live on NZ First's website this week. Among other things it pledges that; "NZ First will conduct a review of the foreign owned banks focusing on competition, how much tax they are paying and how we can grow our own New Zealand banking sector."
In July Peters told interest.co.nz NZ hadn't undertaken an Australian style banking inquiry due to "subservient puppetized [NZ] politicians who won't act in the national interests of business and private citizens." But the coalition agreement makes no mention of any such inquiry. Asked this week whether this meant the policy hadn't made it into the coalition agreement with Labour, a NZ First spokesman enigmatically replied; "We’re not able to confirm that for you at this stage. Sorry we couldn’t be more help."
But rather than going down the uncertain, time consuming and costly to taxpayers route of a government organised probe into banking competition, I reckon banking competition in NZ could be significantly improved by a few simple steps. These would require a commitment from the Reserve Bank, the Government and NZ owned banks to bolster competition for the benefit of NZ consumers. Here, in no particular order, are three steps I believe could lead to significant improvement in the competitive landscape.
1) Government coerced, or enforced, open banking.
This could certainly give so-called fintechs a foot in the door. Open banking requires banks to share product and customer data with customers and third parties, - with the consent of the customer. Such data sharing should both increase price transparency, and enable comparison services to accurately assess how much a product would cost a consumer based on their behaviour. This would thus enable the recommendation of the most appropriate products for individual customers.
Just before the election then-Commerce and Consumer Affairs Minister Jacqui Dean said that as part of the Government's push for greater retail payments competition, she wanted to see banks enable open banking. Dean wanted to hear back from the industry by April, and was waving the potential stick of regulating the terms of access into bank systems.
New Commerce and Consumer Affairs Minister Kris Faafoi has told interest.co.nz he wants to work collaboratively with both banks and start-ups to foster innovation, while protecting people’s privacy. Faafoi also says he's watching developments in Australia where a report from the Government's independent review recommending the best approach to implement an open banking regime is due by the end of 2017.
The idea is that open banking could drive competition in financial services by changing the way people use, and benefit from, their data, boosting consumer choice and empowering bank customers to seek out the banking products that most suit their circumstances.
On this one the ball's in the court of Faafoi and Ministry of Business, Innovation and Employment officials.
2) Level the capital playing field.
Bank capital is effectively the difference between a bank's assets and liabilities and provides comfort that depositors' money is secure, remembering NZ is an OECD outlier in not having deposit insurance.
The Reserve Bank is currently undertaking its biggest ever review of banks' regulatory capital adequacy requirements. Launching the capital review earlier in the year, Grant Spencer, the Reserve Bank's then-Deputy Governor and now Acting Governor, outlined why bank capital matters.
"Bank capital is an important cushion for the financial system. It is the form of funding that stands first in line to absorb any losses that banks may incur. Having sufficient capital promotes financial stability by reducing the likelihood of bank insolvency and moderating the effect of credit cycles," Spencer said.
One item on the review's agenda is the use of so-called internal risk models by the four Australian owned banks. In use since 2008, these allow ANZ, ASB, BNZ and Westpac to develop their own models to quantify required capital for credit risk and then get these approved by the Reserve Bank. All other NZ banks use what's known as the standardised approach where the Reserve Bank prescribes their credit risk measurement on loans to various asset classes such as housing. The upshot of this is banks using the internal approach can carry less capital, thus boosting profitability.
Here's an example of what the discrepancy means in practice. As of March 31, ANZ NZ was required to hold $1.267 billion of capital, at a risk weighting of 22%, against $67.228 billion worth of residential mortgages. The $1.267 billion is equivalent to 1.9% of ANZ's total mortgage exposures. Kiwibank, at June 30, was required to hold $515 million of capital against $16.521 billion of residential mortgages. Almost two-thirds of this was at a risk weighting of 35%, with the rest at risk weightings ranging from 40% right up to 100%. Kiwibank's $515 million is equivalent to 3.1% of its mortgage exposure.
In a combined submission to the Reserve Bank, The Co-operative Bank, SBS Bank and TSB Bank suggest the regulator ought to standardise the measurement of risk weighted exposures.
"This would result in all banks holding the same level of capital for the same underlying risks, ensuring a level playing field across the banking sector. This will encourage further competition in the banking system, consistent with the Reserve Bank of New Zealand objectives," the three banks argue.
They have a point. Your move Reserve Bank.
3) Smaller, NZ owned banks share back office functions.
With banks adopting digital services, automation and self service more and more, big banks with significant scale in the provision of largely homogeneous products such as mortgages and deposits, have the advantage. They have the customer volumes, big systems and large workforce, thus potential for significant cost cutting and ability to survive and even thrive on low margin products.
Of course this means job losses, especially jobs in manual processing. Just last week BNZ's parent National Australia Bank (NAB) said it would cut a net 4,000 jobs, or about 12% of its workforce, by 2020 as it strives to cut costs by more than A$1 billion. “As we automate we will need less people,” NAB CEO Andrew Thorburn said. “The reshaping of the workforce is going to be significant.”
About three years ago I wrote some articles that canvassed the idea of a back office merger between the likes of The Co-operative Bank, TSB, SBS Bank and building societies. Some discussions had taken place between some of them. When I raised the issue with the Reserve Bank I was told the regulator had heard nothing and thus wouldn't comment.
Back office mergers would help the banking minnows reduce costs, even potentially by developing a joint core banking system. In 2014 then-Co-operative Bank CEO Bruce McLachlan told me it cost roughly $50 million a year to run a bank. He also noted The Co-operative Bank's $2 million annual investment in online and mobile banking, which other comparable banks were replicating.
"We (Co-op Bank) are not at this stage pursuing any type of tie-up with anyone else for the back office. But I wouldn't completely ignore that [in the] long run because the amount of investment required to stay relevant is huge," said McLachlan.
Your move NZ owned banks and building societies. If you want to better position yourselves to take on the big boys, then work together.
*This article was first published in our email for paying subscribers early on Thursday morning. See here for more details and how to subscribe.