Time to revolt against banks

BY ROD ORAM

OPINION: It's time to revolt against the cosy quartet of banks that dominate New Zealand's financial system. The best bet is to support Kiwibank, the only challenger of potential scale and credible business model.

The evidence is clear from Reserve Bank data, a select committee report and other sources: ANZ/National, Westpac, BNZ and ASB are enjoying excessively healthy lending margins. They are weathering the recession far more comfortably than their customers.

This is an issue of economics, not envy. The banks' strong profits in good and bad times take money away from customers who would use it more productively.

The banks offer plenty of excuses why their lending rates are staying high even though the Reserve Bank has slashed the Official Cash Rate. But none hold water. All are self- serving.

First, they tell us overseas markets from which they borrow 40% of the money they lend to us heavily influence their funding costs. Given the past 18 months of turmoil in global markets, we should expect to pay a hefty price, they say.

That was true. But while global markets are still far from normal, they have settled down a lot. Yet the quartet has been far too slow to raise money itself. The banks are depending instead on their Australian parents raising money internationally and passing it on to them at a hefty mark-up.

The New Zealand subsidiaries argue this was the most cost- effective way to fund themselves. But five main problems arise:

* The parents are heading towards the intra-group lending limits set by Australian regulators

* Moody's, the credit rating agency, says parental dependency is unhealthy. It wants local subsidiaries to raise more money directly as one way to gauge market sentiment of New Zealand creditworthiness and, hopefully, lower costs

* The parents are double dipping, profiting from lending to the New Zealand subsidiaries and from their subsidiaries' lending to local customers

* The tightness of funding from Australia is causing the subsidiaries here to scramble for local deposits, thus bidding up interest rates here

* The local subsidiaries are very slow to get out into international markets themselves.

Over the past month, three of the four local subsidiaries have raised money directly in the US and east Asia. The risk premium of around 80 basis points, while high by historic standards, is half the rate ANZ NZ paid when it raised some money earlier in the year.

This relative improvement of global credit markets will make it easier for local subsidiaries to raise money abroad more cheaply. They have scope now to lower their price of lending here. If global stability continues to improve, the case only gets better.

The banks' second justification for high margins is deteriorating loan books. In a recession, credit risks rises, particularly for business lending and to a lesser extent on mortgages. Thus, they argue, they need to tighten lending terms, charge more and keep their profits healthy.

Again that's superficially true. But four main problems arise:

* The banks underestimated risk in the good times, profiting handsomely from cheap short-term borrowing overseas and high lending volumes at home; now they are over- estimating risk, profiting handsomely by tightening lending terms and padding margins.

* Agriculture is one example of these bad lending practices. It was the one class of assets on which the Reserve Bank, under the Basle II global banking guidelines, allowed them to calculate their own risk- weighted reserves. They halved the reserves, enabling them to double their lending on the same capital even as the dairy sector was obviously experiencing an unsustainable bubble. The Reserve Bank is now discussing the restoration of reserves to prior levels and the banks are resisting mightily.

* Loan books are in good shape. Impaired assets are now only 1.5% or so of loans. The Reserve Bank expects them to peak at around 4%, half the rate during our last big recession in the early 1990s. All other banks in the world, which are weathering real crises, must be deeply envious.

* The parents of local banks and the parents' shareholders did very well in the good times. It is unconscionable that they now expect their customers to pay for those lending excesses through higher margins now. It's payback time for parents and shareholders.

The banks' third justification is that the Reserve Bank data is misleading. It shows that the Business Base Lending Rate (for new overdrafts on non-farm, small and medium business) was 12.25% in May 2008 but has fallen by only 2.49 percentage points while mortgage rates have fallen 4.49 points and the OCR has dropped 5.75 points.

It is up to the banks to prove the data is wrong by being totally transparent about their finances. The Reserve Bank has done its best in calculating the BBLR but the banks have given it a real run- around.

The banks' fourth justification is that the market is competitive. Again, that is narrowly true on, for example, the competition for retail deposits. But that's a profitable game their parents have created by keeping local subsidiaries on tight funding leashes.

But the reality is the four banks are pursuing remarkably similar cost-cutting, risk-averse, under- funded, profit-enhancing strategies dictated by their parents. This isn't collusion. It's simply a narrow, collective mind-set.

Where is the ambitious banker who sees a once-in-a-generation opportunity to break the mould and build a big, profitable, customer- responsive business?

The last person to succeed with such a strategy was Sir John Anderson with National Bank from the mid 1980s to the early 1990s. Of course, he had the advantage of a UK parent bank that let him.

We need such competitive pressure again. But politicians and regulators won't be much help getting it. The prime minister is all over the shop on the issue. A week ago he was urging the banks to pass on the OCR cuts, last week he said there wasn't much point in having a bank inquiry and anyway there were issues of financial stability to consider.

Parliament's finance and expenditure committee is thinking of having an inquiry into the issues it raised in its report on banks last week. It has the horsepower to do so in the likes of its chair Craig Foss, a National MP and former investment banker, and David Cunliffe, Labour's finance spokesman and a former management consultant. But the committee's National MPs are unlikely to have the political appetite to delve deeply.

The Reserve Bank can seek information and twist arms but it is very unlikely to use its powers to push the issues much harder. They were designed for use in times of financial crisis. If it used them now it could at least trigger a legal challenge from the banks or worse, a nuclear reaction.

So it's up to us, the customers. We are the one party in all this the banks should really worry about. And if they don't, they are even more detached from reality than they've proved so far.

Taking action is difficult. If you are a borrower, you'll worry about your relationship with your current bank; if you are a long-standing customer, you'll have lots of arrangements with your bank that are fiddly and time-consuming to change, as this columnist found in switching earlier this year from National Bank to Kiwibank. The banks rely on this inertia.

But the one thing we can easily do is to deposit our money with the bank we think will use it most competitively. Kiwibank is the only contender for making a difference. It has proved willing and adept in doing so but it needs more funding. It is seeking more capital from government and working on raising money overseas. But it also needs bigger deposits and more customers to stir the complacent quartet from its lethargy.

A lot is at stake. The quartet, which has an unusually dominant share of the financial system for a developed country, thinks it can tighten its grip now the second tier finance companies have killed themselves off.

But the last thing we need is for ANZ/National, Westpac, BNZ and ASB to become even more dominant. Only a customer revolt will stop them.

- © Fairfax NZ News