House of Commons - Treasury - Written Evidence

Competition and choice in retail banking - Treasury Contents

Written evidence submitted by the Office of Fair Trading

SUMMARY

1. We are submitting this document as part of the Committee's inquiry into competition and choice in the banking sector. The document covers:

the OFT's role and responsibilities;
the OFT's recent interventions in the banking sector; and
options for making further progress.

2. Overall, although there has been some progress in achieving greater competition and choice in banking, the pace of change remains slow and has required significant and continuous intervention from the OFT. If banking was a consumer-focused, competitive market, these changes would have occurred naturally as banks sought to compete with rivals.

3. Looking forward, it is critical that the new Consumer Protection and Markets Authority (CPMA) takes a strong competition stance to ensure that market outcomes favour consumers. Further structural change in the market may be considered appropriate and this is currently being looked at by the Independent Commission on Banking (ICB).

THE OFT'S ROLE AND RESPONSIBILITIES

4. The OFT is an independent, non-ministerial government department whose mission is to make markets work well for consumers. Markets work well when businesses are in open, fair and vigorous competition with each other for the consumer's custom. We pursue our mission by:

encouraging businesses to comply with competition and consumer law and to improve their trading practices through self-regulation;
acting decisively to stop hardcore or flagrant offenders;
studying markets and recommending action where required; and
empowering consumers with the knowledge and skills to make informed choices and get the best value from markets, and helping them resolve problems with suppliers through Consumer Direct.

THE OFT'S RECENT BANKING WORK: OVERVIEW AND OUTCOMES

5. If financial services markets worked well, providers would thrive by providing what consumers wanted, better and more cost-effectively than their rivals. Consumers would have the confidence to shop around and choose between providers. Providers that did not offer value for money would be left with no choice but to improve their products or face declining market share. This competitive environment would drive innovation and generate growth in the economy.

6. The costs of badly functioning financial services markets are borne by consumers (both individuals and businesses) through high charges and low confidence—so a financial services market that is not working for consumers is not working well for the economy.

7. Over the last few years the OFT has observed numerous problems in the retail banking market[102], such as high levels of consumer inertia due to difficulties around switching providers and low levels of transparency. The OFT has completed several pieces of work aiming to improve the market, and improve outcomes for consumers. These include market studies, reviews and investigations on specific issues, references to the Competition Commission (CC) and merger analyses[103].

8. Two of our most high profile pieces of work in recent years have been around personal current accounts and barriers to entry, expansion and exit in retail banking.

PERSONAL CURRENT ACCOUNTS

9. The OFT launched a market study on Personal Current Accounts (PCAs) in 2008. We found low levels of transparency, difficulties in switching providers and problems relating to unarranged overdraft charges (UOCs). Subsequently, we worked with the industry to improve the switching process, increase transparency of charges and take steps to give consumers greater control over unarranged overdraft charges, making them subject to competition.

10. Many of these initiatives have already been implemented. For example, we have worked with Bacs (the payments processor) to improve the process of switching between banks, and banks have now published illustrative charging scenarios on their websites. Following the judgment of the Supreme Court on the assessability of UOCs under the Unfair Terms in Consumer Contracts Regulations (1999), the OFT worked with industry to implement a series of voluntary initiatives to address its outstanding concerns in this area. These include minimum standards on opt-outs from unarranged overdrafts and best practice guidance on treating customers in financial difficulty who incur UOCs. Throughout 2011 we expect to see more improvements, both across the industry, such as the introduction of annual summaries of the cost of running an account, and by individual banks, such as the introduction of greater control and choice.

BARRIERS TO ENTRY AND EXIT IN RETAIL BANKING

11. The OFT published a review of barriers to entry, expansion and exit in retail banking in November 2010. The review was designed to contribute to the wider debate on the future of banking, including the work of the Independent Commission on Banking (ICB).

12. While the review found that most prospective entrants were able to meet regulatory requirements, and source the necessary inputs to offer retail banking services, new providers faced difficulties in attracting customers and expanding market share. This was due to the reluctance of personal and small business customers to switch providers, their loyalty to established brands, and their preference for banks with a local branch. This was most marked for personal and business current account customers—personal customers were more likely to shop around for loan products.

MAKING FURTHER PROGRESS

13. It is too early to assess fully the impact of our initiatives. Some initial indications are encouraging. For example, there has been a reduction in the number of problems that arise from the switching process (data from Bacs shows the number of consumers encountering problems fell from 32% in 2008 to 8% in 2010[104]) and increased transparency through the introduction of "charging scenarios" to assist comparisons of unarranged overdraft charges.

14. However, while improvements are welcome, the pace of change has been slow and banks have not readily agreed to make these improvements, especially around PCAs. In a competitive market, banks would have taken these steps themselves in response to consumer demands, rather than needing considerable pressure from the OFT to implement the changes.

15. Further interventions could help deliver faster change. For example, the new CPMA and the Consumer Financial Education Body (CFEB) could use their powers to tackle consumer inertia in the retail banking market directly by:

requiring banks to provide information to consumers on the things that matter to them (such as clear cost information), in formats which they can use and relate to their personal circumstances, and
creating an effective comparison tool for PCAs.

16. The CPMA presents an opportunity to promote better outcomes for consumers through interventions that help consumers take an active role and make informed choices. As well as having regard to avoiding the potentially anti-competitive impact of regulatory activity, consideration should be given to a positive duty on the CPMA to promote effective competition as a means to deliver improvements for consumers.

17. In some cases, regulatory intervention may prove necessary if market-based solutions do not go far enough. Where the CPMA deems regulatory intervention is necessary, a focus on competition could help deliver solutions which work with, rather than against, the grain of consumer and business behaviour.

STRUCTURAL CHANGES

18. While the remedies outlined above can address consumer inertia, and have the potential to move the retail banking sector to a more consumer-friendly position, they may not be sufficient on their own—structural remedies may be required.

19. Structural remedies can take a number of forms. The most obvious form relates to asset sales from incumbents, either to smaller players or new entrants. This has the effect of potentially increasing the number of players and reducing the level of concentration. However, while in many markets an increase in the number of market participants will have a positive impact, where there are high levels of consumer inertia, increasing the number of players may not result in an increase in rivalry between them. This will be the case if new entrants are not incentivised to act as "challengers", ie to price and innovate aggressively to attract new customers.

20. Structural remedies can also encompass vertical separation, such as creating common infrastructure platforms to promote entry. While such actions were useful when the OFT considered the governance of payment systems, their significance in other aspects of retail banking is less clear. For example, our barriers to entry review suggested little appetite for sharing branches as a way to promote entry / competition.

21. Other potential structural changes relate to separating retail and investment banking activities, although we see this as primarily an issue around financial stability rather than competition.

22. These issues are currently being considered by the ICB.

Annexe

OUTCOMES OF SELECTED OFT INVESTIGATIONS IN RETAIL FINANCIAL SERVICES

PERSONAL CURRENT ACCOUNTS AND OTHER CORE BANKING PRODUCTS

Northern Ireland banking (2005) (following a super-complaint by Which?)[105]

The OFT found evidence of weak competition between banks in Northern Ireland, as well as a lack of transparency and lows levels of switching. The CC recently published its amended Northern Ireland Banking Order which addressed many of these concerns.

PCA market study (2008)[106]

Having found lows levels of transparency, perceived and actual problems around the switching process and the lack of control over the use of unarranged overdrafts, the OFT worked with the industry to implement, on a voluntary basis, a range of initiatives designed to improve consumer outcomes.

Unarranged overdraft charges investigation and Test Case (2009)[107]

Following the judgment of the Supreme Court that these charges could not be assessed in full for fairness under the UTCCRs, the OFT is working with industry to implement a series of voluntary initiatives to address its concerns around these charges. These improvements are ongoing.

Cash ISAs (2010) (following a super-complaint by Consumer Focus)[108]

The OFT secured agreement from banks to publish clearly the interest rates on the face of cash ISA statements and revise industry guidelines on the length of ISA transfers, down from 23 to 15 working days. The OFT also made a number of recommendations to ensure that, if delays occur, consumers are no worse off than they would have been if timelines had been met—this has now been incorporated in industry guidelines.

Barriers to entry, expansion and exit in retail banking review (2010)[109]

The review found that most prospective entrants are able to meet regulatory and infrastructure requirements but new providers face difficulties in attracting customers and expanding market share largely due consumer inertia. This review was submitted to the ICB.

SECONDARY BANKING PRODUCTS

Payment Protection Insurance (2005, 2006) (following a super-complaint by Citizens Advice)[110]

The OFT found problems with the structure of the market (such as switching barriers and costs and information asymmetries), the conduct of firms (such as a lack of transparency) and the lack of active consumers. Following a referral, the CC published a draft Order addressing these concerns.

SME BANKING

SME banking (2007) (review of 2002 CC undertakings)[111]

Following a referral to it the CC, in 2002, found the SME market to be characterised by a reluctance by firms to switch providers, a number of practices that restricted/distorted price competition and a number of barriers to entry and expansion. The CC subsequently received a number of undertakings from banks to address these issues. In 2007, the OFT advised the CC on lifting price controls and the retention of behavioural undertakings agreed in 2002, including an agreement to ensure that SMEs are able to switch accounts quickly and simply.

CREDIT AND DEBT

Debt consolidation (2004)[112]

Following a study that found potentially unfair practices, the OFT launched an awareness campaign on consumer credit and worked with the Debt Managers Standards Association to complete stage one of the OFT's Consumer Codes Approval Scheme.

Home credit (2004) (following a super-complaint by the National Consumer Council)[113]

The OFT found many home credit customers were in a poor bargaining position, had difficulties in making comparisons and were tied to existing lenders. The OFT referred the market to the CC, who, in 2006, announced a number of measures designed to increase competition in the market.

Store cards (2004) (following an inquiry arising from a commitment made to the Treasury Select Committee)[114]

The OFT found that there were features of the sector that appeared to prevent, restrict or distort competition. The OFT referred the market to the CC. In 2006, the CC announced remedies to improve competition in the market.

Credit card default charges (2006)[115]

Following this work, the OFT set a threshold for intervention on credit card default fees. This gives priority to addressing default charges which exceed a threshold of £12. This led to a reduction of default charges by providers[116].

Credit card comparison (2008) (following a super-complaint by Which?)[117]

The OFT made a number of recommendations including, the introduction of an independent credit card price comparison website run by the FSA, improvements to how information is presented in summary boxes, standardisation of terminology, and improvements to consumer education.

High cost credit review (2010)[118]

The OFT found that the market for high-cost consumer credit was working reasonably well in some respects, but it had some concerns on the relatively low levels of ability and effectiveness of consumers driving competition and the limited available of additional sources of supply. A number of recommendations were made and the Government's response is being coordinated by BIS.

MARKET INFRASTRUCTURE

Payments Council (2009) (review against objectives sent by OFT-chaired payment systems task force in 2007)[119]

The OFT reviewed the work of the Payments Council after two years of operation and found there had been some improvement, but more work was needed to improve the focus on flexibility and efficiency of systems and to make sure benefits were passed on to consumers.

MERGER DECISIONS

Abbey National plc / Lloyds TSB Group (2002)[120]

Having considered the issues, the OFT found that the proposed acquisition would lead to the elimination from the market of one of the most significant branch-based competitors to the largest four banks and gives rise to a clear possibility of a substantial lessening of competition, primarily in the market for current accounts. The OFT referred to the merger to the CC which recommended the merger be prohibited.

Lloyds TSB Group / HBOS plc (2008)—report made to Secretary of State[121]

The OFT submitted a report to the Secretary of State which found a realistic prospect that the anticipated merger would result in a substantial lessening of competition in relation to PCAs and banking services for SMEs. The OFT's concerns on PCAs were nationwide, while its concerns about SMEs were focused on Scotland. The Secretary of State did not refer the anticipated merger to the CC.

Co-operative Financial Services Limited / Britannia Building Society (2009)[122]