Competition and choice in retail banking - Treasury Contents


Examination of Witness (Question Numbers 1-31)

Mr Adam Phillips

18 November 2010

Q1   Chair: Mr Phillips, I'd like to carry straight on from our previous session, touching on some of the points that you raised, or began to get into, in response to earlier questions. In your submission you said that, "Structural change", that is structural change to regulation, "could be a stimulus for greater competition". Can you tell us what this structural change is?

Mr Phillips: Yes. The FSA has had a number of objectives: financial capability, consumer protection and the protection of confidence in the financial system. Its concern with consumer protection, in my view, has not been at the level that it should be. One of the most interesting things to me was that of the three managing directors of the FSA, until quite recently, one was responsible for supervision, one was responsible for risk and one was responsible for everything else. Consumer protection was a subset of risk. In other words, one of their three major objectives did not have a managing director who was responsible for it. I believe that has led to a situation where they have not thought—until quite recently—enough about the role of a regulator in providing effective consumer protection.

Since the beginning of last year they have focused much more on being an outcomes regulator. They've looked at their effectiveness. They have moved into this area called "conduct risk supervision", which is about beginning to think about consumer protection, and I think they're making good progress. But for that progress to be maintained I think it's important that the governance body focuses primarily on their consumer protection objective.

Q2   Chair: At the end of the last parliament, the Minister responsible for this in the Treasury said, in Committee in the House, that he thought competition should be elevated to an objective of the FSA. Do you think it should?

Mr Phillips: In our original submission to you, which we put in about six weeks ago, we said we did believe that. I know we've done more work now and our view is it should be a secondary objective, not the primary objective. The primary objective has to be—we phrase it more broadly than consumer protection—let's say, for the purposes of this, consumer protection. The reason for that is that in some areas of the market it is hard to see how competition can be made effective without significant regulatory intervention, and I pointed out the role of a benchmark product in the pensions market, for example. I think in retail banking there is a real question mark about whether the new entrants will, in fact, be able to change the shape of the market without significant intervention by the regulator, for example to make it easier to switch accounts.

Chair: Let us come on to this in a moment because a number of us are going to be asking exactly these questions.

Q3   John Mann: You state there are barriers to entry to the retail banking sector, you don't tell us what they are. Would you like to?

Mr Phillips: Yes, surely. If you are a major bank one of the great advantages is that you have a large branch network. People need access to branches of banks at various times. You can do a lot on the internet but essentially it's quite important to be able to get to see someone, just occasionally, especially if you've ever tried to get through on the phone. So the big banks do have an advantage in that they have those networks. That is the first problem. It is a problem which, for example, Tesco doesn't face because it has the branches, but for any other new entrants there might be an issue.

You can see that in the work that the OFT did on switching a few years ago, where switching of bank accounts with banks with less market share, was much higher than banks with a higher market share. The reason is that the banks with less than 15% market share tend to be on the internet, they tend to be offering good savings products and people will therefore switch for the best rates. But when it comes to where they do their transactional banking, it's about the accessibility of the branch. It's very expensive to move and difficult to move your account if you have lots of standing orders. The banks make it very difficult for you to do that. Those banks with big shares tend to hold their customers. I think that is one of the issues about barriers to entry.

Another issue about barriers to entry is that holding the database of how your customers spend their money, how much free money they have, is a very useful asset. I happened to have a bit of money in my account this year, because I have two children getting married and I was going to give them wedding presents and pay for the weddings, and my bank manager, who I have not heard from for about a decade, rang me up and said, "I see you have a lot of money in your account, I wonder if we can help you?" I said, "The reason is because my children are getting married", and he said, "Well, in that case, perhaps you'll need to borrow some money. Perhaps they want a mortgage". So owning that database provides an opportunity to sell, and that's also a barrier to a new entrant who will not be able to do that.

Q4   John Mann: I understand that, but what can be done about those two?

Mr Phillips: I hope the Banking Commission is going to look at this—they are doing a much more systematic piece of work than we are, I have to say—but I think that we need to look at this issue of transactional banking, of the utility nature of banking, and the fact that most people are not aware what their bank account is costing them.

  Again, the work the OFT did demonstrate that foregone interest on accounts in 2006 was to the order of about £180 per account. They were unaware that that was the money they could have got in interest. Equally, they're unaware of the cost of providing that account. Only if they fail to do something—

John Mann: But those are separate issues from the two barriers you raised. You raised data and the number of branches. How should those two be addressed?

Mr Phillips: I think the data issue is almost impossible to address. I think you have to make it possible for new entrants to get into the market and accept that they will then compete on their own terms. Although it's interesting that, if you make the transactional service one where people can transfer—as we do with mobile phones—to somebody who is offering a better service, so it becomes easier to move your account, it may well be that we can change that behaviour. An example of that I would give is that, talking to one of the new entrants, he said that his bank opens a new account within 15 minutes. If you want to transfer your account it takes a month because of all the standing orders and direct debit payments, and they are very efficient. That transfer is extremely difficult to make. So for a customer who wants to move their account it's quite hard work to do so and, therefore, banks benefit.

Q5   John Mann: I understand that, but you raised branches as one of the issues. What can be done about that?

Mr Phillips: I don't think anything can be done about branches. As I say, a new entrant who is offering their services through an organisation that has existing branches, like a major retailer, will have the ability to be available on the ground. It's very good that Tesco is coming in. I think they have that possibility. If you look at Metrobank, they're expecting to take between now and 2020 to get to 200 branches in the south-east and they think that's a very aggressive plan. The only other thing that could be done would be to look at a break-up of some of the major retail banks. As I say, we're not in a position to do that work. I hope the Banking Commission will have a look at that.

Q6   John Mann: Compared to other sectors in the UK economy, where would you place banking in terms of competition and competitiveness?

Mr Phillips: Some aspects of banking are very competitive. The issue for me is whether the competition is effective in delivering value to the customer. They may find it difficult to make a profit, but that's not quite the same as meeting the customers' needs and providing a value that people appreciate. As an example—you will be talking to others about this—the anecdotal evidence is that people don't switch their account because they don't think they're going to get better service from another bank. That suggests that there is a real problem here about effective competition.

Q7   John Mann: You talk about poor outcomes in your submission. Can you evidence which group of consumers have suffered most from poor outcomes?

Mr Phillips: I think that in the recent past, the people who have suffered most have been the people who have been in debt and who have found themselves missing a payment. For no reason their pay might go in a little late or they may have a standing order they may have forgotten. It has pushed them over the edge. They immediately have a significant bank charge, then they have a letter telling them they have a significant bank charge and so they have already spent nearly £100 before they can put it right. There is a lot of evidence that people who, once that begins to happen to them, find it extremely difficult to get back to a situation where they're in credit. The work that the Financial Inclusion Taskforce undertook demonstrated that the majority of people who don't have bank accounts have previously had bank accounts, but don't choose to have them now because they feel that they're a trap. So I think that is the real issue.

Q8   John Mann: Finally, ideally, for the best competition, how many more banks and how many more building societies would we have operating in the UK economy? What is your best guess on that?

Mr Phillips: In the UK we have six major banks who dominate the market. Most of the building societies have quite small shares; they're in this below 15% level. Assuming that we do not forcibly break up some of the banks, which is a possibility, the only other route is to make sure that there are no major financial barriers to the new entrants—

John Mann: Ideally, how many more would we have to maximise competition?

Mr Phillips: I think we have enough already. The issue there is that the market is very skewed towards a small number of large banks. So there is competition at that lower end of the market share, but at the top end it is what I would describe as resembling an oligopoly. They work together to have prices that are very similar, and deliver service that is very similar, and therefore the consumer has no choice.

Chair: That's a very serious observation, and I bring in Stewart Hosie at this point.

Q9   Stewart Hosie: That is twice now you've spoken about oligarchic banking, and your submission highlighted specific problems in Scotland and Northern Ireland. Do you believe there are regional monopolies or regional duopolies there?

Mr Phillips: I have no evidence of that. The point that we were making was that in the UK you have six major banks. In Scotland and Northern Ireland you have four major banks. However, in Scotland the share of the two largest banks is enormous. So for many people there is no real choice because they may have to go to one of those two large banks, and when you get a situation like that there is a tendency for the companies involved to be uncompetitive. I think that's the best I could say.

Q10   Stewart Hosie: Is that the only worst outcome from Scotland and Northern Ireland being uncompetitive, or—

Mr Phillips: The lack of competition means that it's expensive for the citizen to get banking services, and the range of products that are made available to them may be restricted. Those are the risks that they run.

Q11   Stewart Hosie: Let me ask this question in a different way. We hear that story a lot in relation to SME lending. It's a huge issue that every MP has. But in Scotland right now Lloyds have the disposal programme; there is a possibility of the recreation of the TSB; Bank of Scotland is operating as a stand-alone bank with high lending decisions taken locally; RBS have the disposal programme; HSBC have employed a chief executive in Scotland; Virgin Money at Tesco Bank is bringing in a lot of jobs; and Clydesdale Bank's assault on the market is very aggressive indeed. Is not much of the problem that the SMEs in particular are too dependent on bank lending and there is no access to other equity outwith the retail banks, and it isn't really a competition issue at all?

Mr Phillips: You're specifically looking at SMEs?

Stewart Hosie: In particular, because that issue we get a lot.

Mr Phillips: Yes. I think what I would say about company lending—and this is not my special area—is that there is a general lack of finance, at that sort of medium level of risk, available as a whole. At the moment it is in extremely short supply. The situation is unusual at the moment. We are not normally quite so short of liquid funds, which can be lent to companies who want to borrow; and, quite reasonably, the banks who are trying to de-risk their balance sheet are much more willing to offer it to people, like me—as I said—when I'm thinking possibly my children might need a mortgage, than to me running my consultancy business, where there is no chance they're going to lend it to me because I do not have a solid asset, in the shape of a house, to put up against it. So it's a slightly unusual situation at the moment. It's not just about lack of competition. It's also about lack of risk capital being available.

Q12   Mark Garnier: I just wanted to follow up on John Mann's line of questioning on barriers to entry, and just develop a couple of these themes. The first one that I wanted to look at was the role of the regulator, in terms of things like switching and in terms of setting up other banks. You talked about the fact that if you want to switch account it's going to take you up to a month, because of things like moving standing orders across, and this kind of stuff. You also have the slightly farcical money laundering rules that we have to comply with, which frankly are pretty tedious. So the regulator is effectively denying competition. That's the first part about it. The second part is that I'm hearing anecdotal evidence that when anybody wants to set up a bank it's taking them a year or two years to get regulatory approval. This is also something which is holding up competition. Do you think that's a fair criticism?

Mr Phillips: It's worthwhile spending some time checking out the people who are going to be running a bank. If it takes a year—two years does sound like a long time—but if it takes a year that may be a wise investment to make sure that these people know what they're doing.

Q13   Mark Garnier: It is quite an expensive lead-in time for that person who is trying to—

Mr Phillips: The real cost is in creating the branch network; is in putting in the software systems; is in raising the capital. So I agree with that, but I think my view would be—I don't know enough about the detail of it—that a reasonable amount of time to inspect the skills' ability and knowledge of the people who are going to be doing that is a good thing to do. I'm sorry I forgot your second question.

Mark Garnier: The second point was to do with things like the money laundering reporting rules—

Mr Phillips: There are two things: you have rules and the application of the rules, and we have consistently argued that the way the rules are being applied is unnecessarily onerous. Although they are much lighter than they were companies still—for reasons to do with staff training and risk—tend to failsafe, so they tend in default to do things that they don't necessarily have to do, and I think that's unnecessary.

Q14   Mark Garnier: I also wanted to pick up on your example of when your daughters were getting married and you had some money coming into your bank. This sort of data isn't just about banking; it's also about things like IFAs, insurance companies, and all this kind of stuff. It gives them a monumental advantage. If you were to talk to the average IFA they are quite unhappy about the fact that a bank will be undermining them because they know exactly what your habits are.

Mr Phillips: There is an issue here—which, again, I hope the Banking Commission will think about—which is that if you think of the English pub about 25 years ago, you could have any beer as long as it was the beer the brewery made. So if you wanted a pint of bitter and you wanted Bass, you went to a Bass pub. If you wanted Pils you went to a Watney pub, because they were the only people who sold it. If you wanted both, you had to walk up and down the street and decide where you wanted to be. The separation of the retail outlet from the provider had the effect that immediately the retailers brought in the things that people wanted into their outlets.

  I think if we look at the bank-assurers as being highly integrated, the focus of the business is not purely on the customer, it's on the business, which is an integrated business of producing the product and selling the product. There is a real issue that an effective retail bank is a bank that depends on its customers, sees its customers as a long-term asset. With the movement from defined benefit to defined contribution schemes people are now looking for a different kind of product. They're looking for a long-term relationship in the area of advice. So there is a real opportunity for a change in the market where people want a retailer.

Q15   Mark Garnier: But are banks going to give this? I think this is an important point. A bank is going to do two things: first of all, it's going to sell its own product first; and secondly, it's going to sell a product. If your bank manager had been really smart he might have phoned you up and said, "I see you have"—I don't know how much money you're spending on your daughter's wedding, but let's say £5,000—

Mr Phillips: If only.

Mark Garnier: The good advice would have been possibly, "You have £5,000 on your credit card. You need to pay this off first". But he's unlikely to do that. He's more likely to say, "You need to buy my bank's saving product". Or, "You need to buy my bank's overdraft product and not pay down the credit card debt on my bank's credit card product".

Mr Phillips: Because he is looking at the product that the bank is trying to sell. If he's looking at building the customer relationship, because of the value of the customer, he might well tell you to pay down your credit card debt, because he wants you to be a good customer.

Mark Garnier: But he hasn't spoken to you in 10 years. The only reason he has phoned you up in 10 years—

Mr Phillips: Is because he's come up with a red flag on his computer; absolutely.

Mark Garnier: Which sounds to me like incredibly bad banking.

Mr Phillips: That's what we have.

Q16   Mark Garnier: So how are we going to stop it?

Mr Phillips: It comes back to the objectives of the managers. If you listen to somebody from Tesco or Asda, they talk about, "Our business depends on our customers. If our customers don't have a good experience they don't come to our store, they go to the people down the road. We need to stock the products they want. We need them to be able to park in the car park. We need to be open when they want us. We need to solve their problems and, if necessary, we replace the product because we want to keep the relationship". None of that happens in a major bank. What they want to do is move the product they want to do. This is why the SMEs have a problem, because they're not thinking about building the business in their community. They're thinking about what their lending requirements are and whether they want to suck in money or push it out again. There is a lack of engagement with their customers.

Q17   Mark Garnier: The American model is one where you have a lot of small banks in towns, and this kind of stuff. You make a very important point about the six major banks dominating the core branch network. You simply cannot replicate that. But, one of the things that major banks have lost is that local knowledge. In Kidderminster you have the big banks, but they're referring back to some bloke in Lombard Street in order to find out what they should or shouldn't be doing. Do you not agree that one of the ways forward is that the regulators should encourage the setting up of local banks in districts or towns or counties, or whatever, which cater to the people and the businesses within that local area?

Mr Phillips: That's one way to solve the problem. We did some research on fairness, which we published relatively recently, and one of the things that people wanted was someone to talk to. There are situations where you want to talk to somebody. If you talk to people who have been in retail banking they will say that the demise of the professional bank manager was a real problem; that dealing with a call centre, having someone who doesn't know anything about you except for what comes up on the computer creates real problems. But this is to do with the removal of costs from the system because there isn't any benefit in providing the additional service. That's a very strange issue, and I think it comes from this lack of effective competition. Somehow it seems very difficult for banks to provide a better service and stay in business.

Q18   Chair: Can I just take you back to what you said earlier. Did you say that there was evidence of an oligopoly or oligarchic behaviour?

Mr Phillips: I will be very careful about what I say, but what I said was—

Chair: That is why I'm asking you to have another go.

Mr Phillips: —there appears to be an effective monopoly operating, in the sense that people need utilities—

Chair: The operation of a monopoly is illegal.

Mr Phillips: Yes, and it doesn't—

Q19   Chair: Have you had a word with the OFT about this?

Mr Phillips: Yes, I know. I am trying to find a way of explaining a behaviour that appears to me to provide a very consistent and similar level of service across all banks. All banks provide free banking services—

Chair: These things can happen by a happy accident from the point of view of the bank, but if there is any operation, if there is any design behind this—

Mr Phillips: I have no evidence that there is any design behind it at all other than that, in this industry, people tend to copy each other's behaviour.

Chair: You have not had a word with the OFT?

Mr Phillips: I haven't had a word with the OFT.

Q20   Mr Love: My question relates to what we've been discussing here, but in a sense it's a matter of principle. Under the Financial Services and Markets Act, the FSA had to have regard to competition. I wonder whether we should consider that, in the future, the regulator should have regard to diversity. By "diversity" I mean large and small, regional rather than national. But, in my particular interest, what I'm mainly focused on is mutual and co-operative structures, as well as the more conventional financial services. Is there any merit, from a consumer's point of view, to having that as something that they should have regard to when they're overseeing the marketplace?

Mr Phillips: It's a very interesting suggestion, which we haven't thought about. I think there could be considerable benefits in that, yes, just as you put it to me. But as a panel we haven't thought about that. But the requirement to maintain or endeavour to maintain diversity in this area could be a very interesting requirement.

Q21   Mr Love: Let me just act as devil's advocate. What would be the argument against it? Whenever this has been raised before it is always suggested that you don't want to place too many responsibilities of that nature on to a regulator. Do you see that as something that would cause you to have second thoughts about that?

Mr Phillips: I don't think that would be a problem. I think the real issue is that where you do have within an Act "have regard to", it is essentially to draw the attention of the organisation to things it needs to take account of. We've seen the FSA—who has considerable powers in the area of competition—failing to use those powers in the past. So, "having regard to" draws their attention to it, but it doesn't mean that they have to do it.

Q22   Mr Love: Can I ask you about the interest rate margin? Where are we? Is it at record levels?

Mr Phillips: It's a very good spread at the moment; absolutely.

Mr Love: Is it at record levels?

Mr Phillips: I don't know whether it's at a record level but it's certainly higher than I've ever seen it.

Q23   Mr Love: What are you as an organisation doing to highlight that, because I would assume that it's contrary to the benefit of consumers, and what should we be thinking about? Sorry, does its being so high reflect a lack of competition in the sector?

Mr Phillips: It would have been better to ask my friend Ian Cornish what he thinks about that, because he is chief executive of a building society. I would hesitate to say that it is a lack of competition in that respect, but it is quite clear that, historically, the spreads are bigger than they have ever been and we would expect to see them come down as interest rates begin to go up again. If they don't come down, I think there has to be a real issue here.

Q24   Mr Love: Let me put it to you another way: are the authorities turning a blind eye to the need of the financial services sector to rebuild capital, at the expense of benefit to the consumer?

Mr Phillips: I don't know whether they are. It is the case that those spreads are very high and I could not say any more than that, but it's certainly a question you could ask Lord Turner when he comes before you.

Q25   Chair: Isn't part of the reason for the wide spreads the cost of borrowing for banks caused by the shape of the u-curve? Or are the banks making that up when they tell us that?

Mr Phillips: There are a lot of older people who rely on their savings and they are finding it very difficult to get any decent return on their savings. To the extent that there is money coming into the system, you would have thought that it would be possible to pay a higher interest rate. So the exact mix of what is going on in the market—as I say, this is not my area—but Lord Turner would be a good man to ask.

Q26   Mr Mudie: Mr Phillips, could I say I'm disappointed with your evidence, in that you've given us 2½ pages on this; Which? have given us 26½ and you have 7½ on the previous subject. Why is it so short when it's dealing with a key subject for consumers?

Mr Phillips: I think that we would—

Mr Mudie: In terms of competition and choice in banking, do you think this is strong enough for the Committee? Are you treating it less importantly than it should be treated?

Mr Phillips: No, I think what we were trying to do was raise the major issues for you so that you were in a position to understand where we were coming from. You have the opportunity to ask me questions, which you have done, and to the extent that you want more information we would be quite happy to provide it.

Q27   Mr Mudie: From your organisation, I think you'd expect more and I'd welcome you putting in more evidence. We have just started the inquiry, and we're starting the inquiry speaking to consumer representatives. It is an opportunity for you to put the problems on the table, so that when we meet the bankers themselves we have spoken to you in depth and you have had the opportunity to put everything you need on the table, and I'm disappointed you haven't.

But one of the things you did put on the table—and I'd like you to convince me of—was free banking. Why are you so in favour of free banking? It's almost the one thing in your paper that you pull out and it seems to me extraordinary.

Mr Phillips: The problem with free banking is that it is notionally free, so it's not actually free. The effect of that is to favour certain kinds of people against others. To give an example, the provision of basic bank accounts to people who need a basic bank account in order to survive, costs banks money. They provide that "for free". In fact, to the extent that those people—

Mr Mudie: Or they don't provide it and that's another problem.

Mr Phillips: That's right. So our view about this is that if we are going to have an effective transactional market for provision of financial services we are going to have to look very hard at this "free market"—the free provision of banking—because there is a real risk that banks will not provide that service. There is no formal agreement by which people have a right of access to a basic bank account. It is a voluntary agreement. There is a cost associated with it and it is important that those costs are understood and are shared. That could be a cost that the individual has to pay. It may well be that if you're on benefits that that would be something that would be taken account of. It would provide much more clarity when it comes to people looking at the value of bundled bank accounts, where they're getting a built-in insurance coming through or some benefits, other benefits.

Q28   Mr Mudie: I hope—and I would like you to persuade me—that by advocating this you're not handing the banks another opportunity to put another charge on, the front door charge. They have put enough non-transparent charges on; everything we do, we are accounts. Why would this be a guarantee that suddenly transparency would take place and competition would take place? It just seems to me it would be two things. There would be another charge straight up. It might be the only charge you get put transparently to you. It might be, if you're suggesting a competition takes part over that, that it's a minor victory for consumers. But secondly, we are trying to persuade people. We are trying to persuade the banks to give them basic bank accounts, and we're trying to persuade people to take them up. Tell me why it helps both matters? Isn't it just handing the banker something they don't need, a blank cheque?

Mr Phillips: If that is all we do, then that is exactly what it will do. The issue here is that the reason we would be doing it would be to change the banking sector and the way it works.

Q29   Mr Mudie: I accept that. But that's what I'm saying about your evidence. Why didn't you go into things that Which? go into—all the ways the banks are fleecing their customers: with charges; there's no transparency; there's not even knowledge; there's no argument; there's no discussion.

Mr Phillips: We did submit evidence to the Which? banking commission, quite extensive evidence, more extensive than we've submitted to you. Their report is a very good report. There is no reason for us to duplicate that work. We've referred to it in our evidence to you as being a very good report. We've quoted from it. So I think at that level we would say that we agree with virtually all of their conclusions, and we've been quite clear about the ones that we think are most important. The provision of free banking services is a very complicated area, and we would be willing to come back with more evidence in this very specific area.

Q30   Chair: That would be extremely helpful. In your evidence you say, "Lack of transparency about interest foregone on current accounts and the difficulty of establishing the total cost of a current account work against customers making a rational decision". I think most people around this table would agree. You are in a uniquely strong position to have done a bit of number crunching. Do you have any idea how much you are paying for your account?

Mr Phillips: No.

Chair: Don't you think it might be something to take a look at?

Mr Phillips: Yes. When I say that, it's very hard to find out.

Q31   Jesse Norman: Between free competition and outright collusion there is an interesting intermediate area of price signalling between players, and you've mentioned some of the behaviour of economic effects. Do you think there might be some price signalling going on between the providers, which would explain why many prices have seemed so high, both in the wholesale and the retail markets?

Mr Phillips: Again, I think where you get a market with a small number of players the risk of that exists. I look across what the charges appear to be; the behaviours are very similar.

Jesse Norman: So your suspicion would be this is happening here?

Mr Phillips: What I said before, I stand by, which is in this industry people copy each other. So when somebody does something that seems to work, people copy it. If you look at PPI, one of the big problems about PPI was that once one organisation could see a lot of money could be made from it other people copied that. I think in the future one of the jobs of the regulator will be to stop that copying happening.

Chair: That was extremely helpful evidence you have given this morning. We are very grateful, and you can sense our interest in this subject in our thirst for more. Indeed, a number of us—I was a bit surprised for a moment—are asking for a lot more written evidence, but we certainly do need it.

Mr Phillips: I have made some notes.

Chair: There are a number of things on which it would be helpful if you could come back to us.

Mr Phillips: I have certainly made notes but if somebody could tell us exactly what you want.

Chair: The clerks of the Committee will be in touch in due course. Thank you very much indeed. We're going to take a three minute break and then carry on with the next session. Thank you very much.




 
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