Written evidence submitted by Nationwide
Building Society
Nationwide Building Society welcomes the opportunity
to respond to the Committee's inquiry into competition and choice
in the banking sector. We are the UK's third largest mortgage
lender and savings provider, with around £190 billion in
assets. As the UK's largest building society we are different
from many of our competitors. Unlike banks that are run for shareholder
benefit and to maximise profit, we are owned by and run for the
benefit of our 15 million members.
EXECUTIVE SUMMARY
- The banking sector has changed considerably,
with widespread consolidation over recent years leading to the
mortgage, savings and current accounts markets being dominated
by the largest high street banks.
- In the short to medium term, greater competition
in banking is more likely to come from existing participants than
from new entrants since the UK is effectively a mature, low-growth
market. Competition also materialises from "challenger"
brands operating successfully amongst the high street banks.
- Government proposals to "foster diversity,
promote mutuals and create a more competitive banking industry"
are welcome but no further details have been communicated to date.
- Building societies offer much needed diversity,
with their long-term focus providing a much-needed counter-balance
to the short-term pressures of the banks. The mutual business
model—based on lower risk, trust, a focus on customer service,
price stability and member engagement—offers consumers a
genuine alternative.
- However, the current regulatory approach threatens
to reduce mutuals' competitiveness with banks. Regulation must
recognise the needs of the mutual model, particularly with regard
to capital requirements. At present, societies are without a wholesale
Core Tier 1 capital instrument that is consistent with mutual
principles, satisfies the demands of regulators and meets the
needs of investors, leading to potential negative impacts on competition.
- The Government should also be mindful of the
cumulative burden of existing and new regulation across the financial
sector. It must seek to achieve the right balance of stability,
competition and ensuring appropriate returns can be made to encourage
market entry and expansion.
- Together with regulatory requirements, significant
barriers to entry and expansion exist in the form of brand strength,
branch networks, low margins and customer inertia.
- When considering greater transparency of information
on financial products, a balance must be struck to avoid information
overload, potentially increasing consumer inertia and apathy.
- Foreign-based operators remain strong competitors
in the savings market but are unlikely to re-enter the mortgage
market in the medium term.
I. Widespread consolidation has led to the
mortgage, savings and current accounts markets being dominated
by the largest high street banks
1. Focusing on the impact on retail markets only,
there has been widespread consolidation amongst banks and mutuals
which has led to an increase in concentration in key retail markets.
Market share for the top five players in the mortgage market increased
from 55% to 68% between 2007 and 2009; 47% to 62% in savings;
and 79% to 84% in personal current accounts. Although part of
this can be attributed to volume performance, the vast majority
of the change is due to consolidation (Appendix 1).
2. Lloyds Banking Group, Santander, Nationwide,
Barclays, RBS and HSBC made up the six largest UK retail businesses
in 2009, accounting for 81% of the total UK retail assets of the
largest 15 market participants. In 2007, the top eight firms,
which included Northern Rock and HBOS, comprised 81% of the top
15 banks/mutuals (Appendix 2). The mortgage, savings and current
account markets are now dominated by the largest high street institutions
(Appendix 3).
3. The number of "post crisis" entrants
into Personal Financial Services (PFS) markets has been limited,
despite media noise. Entrants include Tesco (who were operating
before the crisis but were and are focused on segments of PFS
markets), Metrobank (which has recently opened its first two branches)
and a few overseas organisations. The impact of these entrants
on PFS markets is limited due to the current size of their operations
and scope of activity. The new entrants are likely to have greater
impact on PFS markets when they have generated the financial and
organisational infrastructure to distribute products on a wider
scale, in addition to far greater brand awareness by consumers.
II. In the short to medium term, greater competition
in banking is more likely to come from existing participants than
from new entrants
4. A healthy degree of competition is vital for
financial stability and the UK has a wide variety of PFS providers.
However, the pre-2007 evidence suggests that there is a limit
to the number of competitors that can be active in a stable market
while making acceptable returns for their owners. As we have seen,
large retail banks are heavily entrenched in the market and simply
increasing the number of new entrants will not deliver genuine
competition. Supporting the "challenger" brands already
operating successfully amongst the high street banks is necessary
to achieving this goal.
5. Any new entrant will be faced by all the problems
of lack of scale and the range of entry barriers outlined below.
New banks will need to take market share of an existing player,
since the UK is effectively a mature, low-growth market. This
would require a USP, such as service or more likely price, both
of which will inevitably impact on marginal and average costs
of acquisition and administration of business. The fact that it
took two years for a new bank to recently open a branch is a further
illustration of the challenge.
6. Existing banks and societies will be attempting
to retain their best, most profitable customers and are likely
to be able to offer better deals to them than a new entrant could
manage. If that is the case, a new entrant seeking growth will
have to accept lower net worth customers, with the potential for
self-selection as only those customers in the main who cannot
access services elsewhere will choose new entrants. This may lead
to mispriced risk (as discovered by new entrants into sub-prime
mortgage lending recently) and/or the acquisition of customers
who will regularly move from provider to provider in search of
the highest short-term rate.
7. The problem illustrated by the financial crisis
was one of firms seeking vast balance sheet growth in an attempt
to remain competitive, funded by unstable retail and wholesale
deposits. This misalignment between risk and reward had a substantial
impact on financial stability. Having said this, of course, increasing
competition in markets like current accounts will not destabilise
the economy. More should be done to encourage greater competition
here, particularly around the mechanics and consumer perceptions
of account switching, if all providers are on a level playing
field.
8. The Government's strategy to increase competition
in banking is, however, currently difficult to interpret, partly
because the only aspect of this so far articulated is the potential
sale of Northern Rock and the disposal of Government stakes in
LBG and RBS.
9. Competition may be improved by creating a
level playing field for banks and mutuals. This includes the withdrawal
of state-backed deposit guarantees for LBG and RBS and placing
restrictions on these banks, Northern Rock and NS&I in terms
of the rates that they offer on certain mainstream products and
their market share of these products. Furthermore, Santander has
been allowed to expand and it has become an even more significant
force. A consequence has been the removal of many "challenger"
brands and less choice for customers. The Government should work
with the industry to facilitate viable new entrants, support "challenger"
brands and examine seriously the possibility of returning Northern
Rock to mutual status, which would involve repayment to the taxpayer
over a long timeframe.
III. Building societies provide much-needed
diversity
10. The Government also intends to bring forward
proposals to "foster diversity, promote mutuals and create
a more competitive banking industry", but there needs to
be an urgent debate on its expectations for mutuals, particularly
on creating greater competition.
11. A range of different business models in any
industry is important because it offers different ways of combining
economic, social and political priorities, thereby maximising
their potential benefit. The more diversified a financial system
in terms of ownership, governance structures and portfolio make-up,
the better able it is to weather strains created by the normal
business cycle. The long-term focus of building societies provides
a useful and necessary counter-balance to the short-term pressures
of the banks.
12. Whilst they need to exhibit the same efficiencies
as banks to maintain the mutual pricing difference, their foundations
of reciprocity and common ownership allow building societies to
prioritise long-term returns ahead of short-term private gain,
offering consumers a genuine choice of a different approach to
business. The financial crisis has served to reaffirm a number
of fundamental strengths of the mutual model:
- Inherently less risky with a long-term approach—societies
generally have a lower risk appetite than banks because they seek
to serve members' needs rather than short-run profitability and
most members are depositors who tend to be risk averse. This strategy
is reinforced by a more restrictive legislative framework and
greater difficulty in raising new capital outside of retained
earnings, both of which have meant a more limited use of wholesale
funding. This has been translated into responsible lending with
lower credit losses and arrears than many other lenders.
- Trust—the focus
on relationship banking has maintained the bond of trust between
members and societies. The importance of this must not be underestimated
in what has been a troubled period. By offering personal interaction
and immediacy of transaction through branch networks situated
close to members, societies are able to develop personal relationships
with members.
- Customer service—a
different ethos that puts members first, the proximity of branches
to members, the strength of relationships and a long-term approach
to business are just some of the underlying reasons for the consistently
higher member satisfaction levels.
- Price stability—as
societies do not pay dividends to shareholders they are able to
convert this potential distribution into a pricing advantage and
provide products to members at better, less volatile prices than
banks.
- Member engagement—as
democratic organisations, societies are accountable to all those
with a stake in their success, giving users and employees a say
in how they are run.
13. A lower risk appetite is one reason why the
building society sector has, in general, managed the stressed
environment far better than most banks, particularly the converted
societies (none of which survived without third-party intervention),
which proved vulnerable having moved away from their once conservative
business model. Whilst there have been clear problems as a result
of unwise lending decisions by some societies, the sector has,
in the main, supported itself with a significant degree of consolidation,
not least as a result of Nationwide's support.
IV. There are a range of significant barriers
to entry and expansion in banking
The regulatory response to the financial crisis must
recognise the needs of the mutual business model, particularly
with regard to its capital requirements
14. The Government wants to create a more competitive
and less risky financial industry, which includes fostering diversity
and promoting mutuals. However, regulatory changes have invariably
failed to take proper account of the mutual model and this is
one reason why the sector has found it difficult to compete with
banks.
15. Regulation must be tailored to encourage
a diversity of business models. In particular, margin contraction
and reductions in profit have made it difficult for some societies
to increase levels of organic capital without reducing the benefits
provided to members—new regulatory requirements mean that
societies are currently without a wholesale capital instrument
compatible with the mutual business model.
16. A major concern for the mutual sector is
the ability to issue a Core Tier 1 capital instrument that recognises
the unique mutual business model, satisfies European and national
regulators regarding quality and meets investors' needs. Successful
resolution of this will strengthen the mutual sector and enable
it to continue to present a viable, competitive alternative to
banks. If not addressed, this factor, taken with the restrictions
societies face with regard to non-retail funding and increased
competition for retail deposits, means that the sector faces an
uncertain future which will have an undesirable effect on competition.
The Government should be mindful of the cumulative
burden of existing and new regulation and its impact on market
entry and expansion
17. Regulatory requirements in the banking sector
are considerable given the nature of the market. In the wake of
the financial crisis, the sector is facing significant regulatory
reform that will impact on the ability of providers to enter and
expand within the market. Whilst Nationwide fully supports the
goal of a more stable financial sector, governments and regulators—at
domestic, European and international levels—must be mindful
of the cumulative burden that their regulatory response has on
the sector.
18. In addition to the mutual-specific concerns
raised above, the financial sector is currently facing stricter
capital and liquidity requirements, a new bank levy, changes to
the deposit guarantee scheme, potential restrictions on mortgage
lending through the Mortgage Market Review, the Retail Distribution
Review, changes to corporate governance and a new regulatory architecture.
The cumulative impact must be assessed and recognised to enable
the Government to achieve the right balance between stability,
competition and the need to ensure appropriate returns are available
to encourage market entry and expansion.
In addition to the regulatory burden, there are a
range of further significant barriers that limit entry and expansion
19. The development of a strong brand is vital
but is hugely costly and can only be achieved over an extended
period of time. Retail banking is characterised by strong
brands due to the relatively high risk and complex nature of consumers'
purchase decisions. It is also important to note the clear relationship
between brand and trustworthiness, and the significant barrier
this presents to new entrants.
20. A branch network remains necessary to
achieving scale, particularly when considering the provision
of the full range of personal financial products, not least as
a means of cross-selling to existing and new customers. Alternative
channels have clearly reduced branch use by some customers and
new entrants have demonstrated that success can be achieved without
high street presence, although primarily for less complicated,
less transactional products such as savings, loans and credit
cards. Branch location and convenience continue to be major factors
in choosing a current account provider, with face-to-face interaction
important in developing strong customer relationships.
21. Low margins in a highly competitive, mature
market, where existing players are all seeking to attract the
best customers, create a strong barrier to entry. The necessity
to offer front book deals to attract customers from other banks
is likely to lead to a period of low profitability. This is exacerbated
by the absence of a sizeable backbook that can be used to generate
ongoing profitability to subsidise front book deals. Profit levels
are important as new entrants (and existing participants) will
only be attracted if returns are at a suitable level compared
to other economies and sectors.
22. Customer inertia is powerful and should
continue to be tackled. This is particularly the case in the
current account market and may lead to the new entrants having
to offer higher incentives to switch, subsequently reducing profits.
In our view, inertia is more to do with customer and established
bank attitudes than the range of products on offer. Improving
consumer awareness and financial capability remains an important
element when addressing this issue and the sector does need to
improve the switching process from a customer experience perspective.
V. When considering greater transparency of
financial products, a balance must be struck to avoid information
overload, potentially increasing consumer inertia
23. The consumer should be the central driver
of effective competition in any industry, yet in financial services
there is evidence of low levels of consumer empowerment, primarily
due to low levels of education and awareness, which has led to
high levels of customer inertia.
24. Transparency of information is important
and has been recognised by the financial sector in a number of
initiatives over recent years. Many aspects of the Banking Code
sought to improve consumer information, including summary boxes.
The self-regulatory Banking Code has now migrated to the FSA to
become the Lending Code, ensuring that the regulator assists the
industry in making improvements where necessary. Credit card charging
structures have been simplified and the Government will be bringing
forward proposals on unfair bank charges and more effective product
comparison tools.
25. However, a balance must be struck between
achieving greater transparency and avoiding information overload
that could potentially increase, rather than reduce, consumer
inertia and apathy, precisely because there is too much information
to digest. Comparison websites, for example, can provide a plethora
of information about a certain product but in doing so may not
improve consumers' ability to extract pertinent information.
26. Improving consumers' financial capability
remains a key element in achieving this balance. In particular,
there is a real need to move the customer away from focusing on
a "single price point" (ie the headline rate) and instead
focusing on the value of a product over its lifecycle and providing
the consumer with the necessary skills to make an adequate comparison
of providers and products when faced with a large amount of information.
27. A particular issue that the Committee's call
for evidence raises is free banking. Retail banking is exceptionally
costly. As well as servicing branch networks, staff must be trained
and qualified, call centres must be manned and head offices staffed
to run functions such as finance, audit and risk management. Building
societies are focused on optimising profit for the benefit of
their members through better rates. In order to do this they need
to fund growth through retained earnings and to attract investors
to generate inorganic capital—as a result, they need to
generate income from banking, whether through up-front charges
or a fee structure.
28. Competition is best served by providers offering
a range of accounts, some of which will be fee paying and others
not, that provide customers with a choice to ensure they have
access to products that meet their individual needs. It is therefore
necessary for consumers to have choice and awareness of the costs
of banking. However, it should be noted that a recent Which? survey[34]
found that 82% of consumers are always in credit and therefore
charges such as those for authorised and unauthorised overdraft
charges will not apply.
VI. Foreign-based operators remain strong
competitors in the savings market but are unlikely to re-enter
the mortgage market in the medium term
29. There is a widespread misassumption that
foreign-based operators have left the UK. In reality, they are
incredibly active in the savings market, including banks such
as ING, Punjab National Bank, ICICI and Bank of Ireland. Foreign
banks' presence is likely to remain high in the savings market
as banks globally continue to seek retail deposits.
30. Foreign-based operators were active in the
mortgage market pre-2007 but their presence is now limited. During
this period, some of these foreign lenders mispriced risk and
led to a general contraction in mortgage spreads, which was unsustainable
given the level of risk, and also contributed to the housing boom.
Indeed, investment banks were carrying out this business in order
to generate packets of loans that could be passed on in this way,
rather than for an intrinsic desire to be active in the mortgage
market. This contributed to a drastic overheating in the market
and a rapid increase in risk. Re-entry into this market seems
unlikely in the medium term, not least because risk is now better
understood and the market for securitised loans has collapsed.
31. From the pre-2007 mortgage market and the
current savings market, it is clear that foreign-based operators
have the ability to both increase competition and distort the
market.
September 2010
APPENDIX 1
MARKET SHARE, 2007 AND 2009, OF MORTGAGES,
SAVINGS AND CURRENT ACCOUNTS
| Mortgages (% balances)
| Savings (% balances)
| Current Account (% accounts)
|
| 2007 | 2009
| | 2007 | 2009
| | 2007 | 2009
|
| Top 5 | 55 | 68
| Top 5 | 47 | 62
| Top 5 | 79 | 84
|
| Rest of market | 45 | 32
| Rest of market | 53 | 38
| Rest of market | 21 | 16
|
| |
| |
| LBG | 8.8 | 29.0
| LBG | 6.5 | 21.1
| LBG | 19 | 30
|
| Santander | 9.6 | 13.4
| Santander | 6.6 | 11.7
| RBS | 17 | 17
|
| Nationwide | 10.2 | 10.8
| Nationwide | 11.2 | 11.3
| Barclays | 15 | 15
|
| RBS | 6.2 | 7.7
| NS&I | 7.0 | 9.3
| HSBC | 14 | 13
|
| Barclays | 5.9 | 7.4
| Barclays | 6.0 | 8.7
| Santander | 6 | 9
|
| HBoS | 20.3 | a
| HBoS | 16.1 | a
| HBoS | 14 | a
|
| |
| |
| Northern Rock | 7.6 | 5.1
| HSBC | 6.0 | 70
| Nationwide | 6 | 7
|
| HSBC | 3.7 | 4.5
| A&L | 3.7 | b
| CFS | 2 | 2 |
| A&L | 3.7 | b
| B&B | 3.4 | b
| Post Office | 2 | 2
|
| B&B | 3.3 | b
| Britannia BS | 1.8 | c
| Yorkshire Bank | 2 | 2
|
| Bank of Ireland | 2.2 | 2.4
| CFS | 0.4 | 2.2
| Clydesdale | 1 | 1
|
| Britannia BS | 2.0 | c
| ING | 1.0 | 2.0
|
| CFS | 0.3 | 2.0
| NAB (UK) | 1.5 | 1.9
|
| Yorkshire BS | 1.3 | 1.3
| Northern Rock | 1.1 | 1.8
|
| Coventry BS | 1.0 | 1.2
| Yorkshire BS | 1.3 | 1.3
|
| NAB (UK) | 0.9 | 1.1
| Coventry BS | 1.0 | 1.2
|
| Other building societies | 3.0
| 2.3 | Other building societies
| 6.3 | 4.2 |
a—part of LBG; b—part of Santander; c—part of
CFS
APPENDIX 2
CUMULATIVE ASSET SHARE OF TOP 15 BANKS/MUTUALS
APPENDIX 3
THE IMPACT OF CONSOLIDATION
CHANGE IN
NET MORTGAGE
BALANCES, 2009
CHANGE IN
SAVINGS BALANCES,
2009
NEW CURRENT
ACCOUNTS, 2009
34
As referenced in: Which? Magazine, "No such thing as free
banking", September 2010. Back
| 
