Banking Standards

Submission from Which? (S029)

Executive Summary

1. The financial crisis has had a devastating impact on consumers and their trust and confidence in the banking sector. However, it has also exposed the fact that even before the financial crisis many aspects of the banking market were not working in the best interests of consumers or the economy as a whole.

2. Low levels of professional standards within the banking sector have led to problems such as excessive risk-taking, Payment Protection Insurance (PPI) mis-selling and LIBOR manipulation. Consumers have paid a heavy price for the low level of professional standards in the banking sector through the bank-bail outs, economic uncertainty and higher prices for banking services.

The level of professional standards in the banking sector and their impact on consumers

3. Unlike other sectors, bankers do not have to abide by a code of conduct and face weak sanctions for failing to maintain high levels of professional standards. Even those banks which claimed to aspire to high levels of professional standards seem to have done little to promote and embed those standards within their organisations.

4. The prevailing culture within most parts of our high-street banks is based on sales rather than serving customers effectively. Overly complex and expensive products are designed, and frontline staff are given strong incentives to sell – rewarded with bonuses if they hit sales targets and threatened with dismissal if they do not. Despite the introduction of ‘Treating Customers Fairly’ parts of the banking sector still suffers from a tick-box approach to professional standards which sees regulation as the only guide to acceptable behaviour.

5. Low levels of professional standards in the banking sector have damaged consumers’ trust in the industry. Consumers have much lower levels of trust in bankers and think they are less likely to face sanctions than other professions such as doctors, engineers, lawyers and accountants. Only 29% of consumers believe that bankers who breach industry codes of conduct would be removed from the profession compared to 78% who think Doctors would.

The causes of these low levels of professional standards

6. More than in any other sector, banks can give the appearance of short-term success by taking extra risk. Over the course of many years, a culture developed which focused on expanding risk without due regard for the long-term sustainability of the sector or of individual banks. Those at the highest levels within some banks set a tone that encouraged banks to game regulations and risk metrics or to comply with the letter but not the spirit of the requirements. This culture failed to investigate concerns about poor behaviour and ignored problems of mis-selling and poor products until they were widespread.

7. The integration of highly leveraged investment banking and retail banking played a part in spreading this culture throughout large banking institutions. State aid, Government guarantees and bail-outs have meant that taxpayers subsidised banks with low levels of professional standards. This has distorted competition by strengthening the position of the largest banks – regardless of whether they were well run or their level of professional standards. The lack of effective competition means that consumers find it difficult to influence banks by taking their business elsewhere and fed a prevailing consumer sentiment that switching is not worthwhile because all the banks are the same.

8. Regulators failed to be proactive when poor conduct emerged or to impose sufficient sanctions on companies or individuals responsible. The culture of the regulator itself, a lack of transparency, and external pressure from commentators and politicians encouraged this weak approach.

9. Banks and regulators failed to ensure that individuals within their institutions were given the right incentives to uphold high standards. Incentive schemes for staff at all levels encouraged mis-selling and excessive risk, rather than focusing on customer service and maintaining high standards.

10. There was also a failure of checks and balances. Boards, non-executive directors and shareholders failed to exercise control within their institutions or indeed actively encouraged or rewarded behaviour which could promote low levels of banking professional standards.

Objectives of reform

11. Consumers depend on the banking system to meet their own financial objectives and fulfil their aspirations. Banking is an essential utility for all consumers. Regardless of wealth, we all need to access financial services in order to go about our daily business. At present the changes proposed as part of the various reform efforts will only go some of the way towards achieving the improvements that are necessary. Restoring trust by improving the level of professional standards in the banking sector will require significant reform to the structure, regulation and culture of the banking sector.

Structural reform

Ring-fencing of essential retail-banking services with strong independent governance: Which? wants to see full and robust implementation of the Vickers ring-fencing proposals to make sure that if a poorly run bank fails it doesn’t have a damaging effect on its customers or the economy. Ring-fencing is required to limit the scope of Government guarantees and to tackle the conflicts of interest which exist in large complex banking groups. It will reduce moral hazard and, by helping to impose a credible threat of failure, will reduce the extent of taxpayer subsidies for low levels of banking standards. Ring-fencing should also limit the spread of a damaging investment banking culture to the retail bank by ensuring an independent board, independent chairs of board committees and prohibiting the sale of complex derivatives and structured products designed by the associated investment bank. Some have called for the Government to go further and break up the banks into investment and retail entities. Our concern would be that to be effective this would require international agreement, which, even if forthcoming would be slow, meanwhile taxpayers would continue to be exposed.

Introducing depositor preference and a clearly understandable deposit protection scheme: This will help protect the deposits of retail customers whilst ensuring that those who lend to banks through the wholesale markets have stronger incentives to monitor and constrain the behaviour of banks with low professional standards.

Strengthening competition and regulation

12. More competition is essential to ensure that banks which have low levels of professional standards are subject to market discipline. Effective competition should ensure that well run banks which treat their customers fairly are able to thrive whilst banks with low levels of professional standards lose customers and are allowed to fail. Effective competition would also encourage banks to compete for customers by offering better value products and improved levels of customer service. Regulators need to do more to promote effective competition and take strong and robust action against any bank with low levels of professional standards.

Refer the banks to the Competition Commission: The Competition Commission is the only body with the power to restructure major banking groups to enhance competition. We should recall that in 2001, the CC rejected a merger between Lloyds and Abbey on competition grounds which would have created a banking group similar in market power to Lloyds after it has completed its divestment.

Consumer protection and prudential regulators should be given a clear mandate to promote competition: To provide stronger incentives for high professional standards consumer protection regulators should promote transparency and the ability of consumers to switch products. Prudential regulators should not discriminate against new entrants and focus on ensuring that market discipline can operate so badly run banks are able to fail without catastrophic consequences for their customers or the economy.

Easier switching for consumers: Portable bank account numbers should be introduced to make it easier for people to switch banks and they should be able to download their usage data to enable them to make one-click comparisons of current accounts

Strong, open and proactive conduct regulation: The new Financial Conduct Authority should take early action to tackle low levels of banking professional standards, hold individuals and banks to account for poor practice and use regulatory transparency to shine a light on the performance of individual banks and its concerns about their culture.

Stronger collective redress powers: There should be new legislation to ensure that collective action can be taken on behalf of consumers who have lost out from corrupt banking practices or mis-selling.

Culture and corporate governance

13. Which? believes that changing the culture of the banking sector has been a neglected part of the reform agenda although it formed a significant part of our own Future of Banking Commission report in 2010. Bankers should seek to create a culture that focuses on the long-term creation of value for shareholders by putting the customer at the heart of their business and recognise their critical role in society at large, along with other professionals such as doctors, lawyers and accountants. This will require a dramatic change of tone and strong action amongst the leadership and management of our largest banks. To be effective this new culture must be embedded at all levels within the banks and staff given the proper incentives to maintain high levels of professional standards. This must involve a totally different approach from Boards, non-executive directors and shareholders.

New professional standards: There is an urgent need for a redefinition of acceptable practice in banking that we believe should be based on a new Good Financial Practice Code. This Code should have similar status amongst the banking profession as codes of conduct have in the medical and other professions. This Code should be devised and enforced by a new professional standards body along the lines of the General Medical Council or the Legal Services Board.

Staff training: Senior managers must practice what they preach and ensure that all staff understand their obligations. To help achieve this, all employees of British banks should receive formal compulsory training in the Good Financial Practice Code. This should include expected ethical behaviour including how to resolve conflicts of interest.

Embedding and enforcing professional standards: Individual banks should take more responsibility for ensuring that all bankers meet these higher professional standards. This should include an annual report from the Board on concerns raised internally and what action has been taken. Non-executive directors need to take greater responsibility for measuring the culture of the bank and reporting back to shareholders.

Remuneration: Remuneration incentives throughout banks, from senior executives should be reformed to prioritise meeting the needs of customers over simply making sales. These schemes should be longer-term in nature with proper clawback of bonuses for inappropriate behaviour.

Individual accountability: Senior management must take greater responsibility for their decisions, including signing off individual products and remuneration schemes. It must be made clear to them that when doing so it is their responsibility to maintain high professional standards and they should be subject to serious consequences in cases where they do not uphold these responsibilities.

Stronger criminal sanctions: In the most serious cases it is important that stronger criminal sanctions are available to the authorities.


14. Which? is a consumer champion. We work to make things better for consumers. Our advice helps them make informed decisions. Our campaigns make people’s lives fairer, simpler and safer. Our services and products put consumers’ needs first to bring them better value.

15. Which? established and supported the Future of Banking Commission, chaired by Rt Hon David Davis MP. In addition to taking evidence from senior regulators, banking executives and academics, the Future of Banking Commission included the Which? big banking debate – an event attended by 300 members of the public and a process that allowed consumers to make their own submissions through the Which? website. The report was published on 13 June 2010 and made a series of recommendations for changes to the structure, regulation, governance and culture of the banking industry. [1] We have sent copies of this report to all members of the Parliamentary Commission. We would also like to thank Philip Augar for his input into this submission.

16. This document contains our responses to the initial questions posed by the Commission. We would be happy to provide any further information required by the Commission and to appear to give oral evidence to the Commission.

17. This document is structured in four sections

Ø Section 1: The level of professional standards in UK banking

This section defines what is meant by professional standards and assesses those in UK banking.

Ø Section 2: The consequences of the low levels of professional standards in UK banking and their impact on public trust

This section outlines the damaging consequences for consumers of the low level of professional standards and compares the level of public trust in the banking sector with other professions.

Ø Section 3: The causes of the low levels of professional standards in UK banking

This section examines the special features of the banking sector and the causes of low levels of professional standards including; the culture of banking; the relationship between retail and investment banking; the lack of effective competition; the role of shareholders and Boards; remuneration incentives; the regulatory approach; and the inability of consumers to obtain redress collectively.

Ø Section 4: Recommendations for reform of the structure, regulation, culture and corporate governance of the UK banking sector

Finally, this section outlines Which?’s recommendations for reforms to the UK banking sector to improve levels of professional standards and restore the public’s trust.

Which? responses to the Commission’s initial questions

Section 1: The level of professional standards in UK banking

Question 1: To what extent are professional standards in UK banking absent or defective? How does this compare to (a) other leading markets (b) other professions and (c) the historic experience of the UK and its place in global markets?

What is meant by professional standards?

18. Many attempts have been made over the years to define what it means to be a professional, or indeed for a specific industry to classify as a profession. In reality there is no ready definition available and there is no obvious dividing line between professional and other services that exhibit similar characteristics. In light of this, there are two ways in which one could go about assessing whether an industry is operating in a professional manner – firstly, by defining professional characteristics and then determining which industries ‘qualify’. Secondly, by listing those occupations generally regarded as professional and seeking common characteristics. For the purposes of this analysis, we take the former approach as a basis for assessing the banking industry.

19. Many lists can be drawn up of the relevant characteristics, but a good starting point has been given in the past by Sir Bryan Carsberg, the former head of the OFT who suggested that the key characteristics are:

Ø A high level of training and education;

Ø A high level of integrity with any drive to make profit modified by ethical constraints; and

Ø Subjection to the constraints imposed by a professional body which monitors performance and takes disciplinary action.

20. Based on this, professionals would tend to be individuals with a specialised skill dealing in areas which involve risk of one kind or another to the client. We would suggest that professional controls should focus on the following issues:

Ø Restricting entry to the profession in some way via requirements on education and/or training and tests of competence;

Ø Ensuring appropriate behaviour via conduct requirements – this will frequently mean going beyond ‘the law’ and will often be bound up in some form of code of conduct or similar;

Ø Dealing with those who are no longer competent or are behaving inappropriately; and

Ø Facilitating redress – perhaps through a complaints mechanism or through insurance.

21. When one looks at the structure of some of those industries and sectors that are commonly thought of as professions, most of these characteristics can be seen to be present. For example, anyone can call themselves a surveyor and can work for a professional body. However, to become a member of the Royal Institute of Chartered Surveyors (RICS) as a Chartered Surveyor, educational, training and experience standards must be met. Similarly, for accountants membership of a professional body is required to use titles such as certified, chartered and management accountant. This is important because without these titles it is not possible to take on the majority of professional work.

22. In addition to education and training, most commonly recognised professions will have a statutory register, and members of that register will be bound by high ethical and quality standards. The registers in turn are controlled by registration bodies (often a statutory regulatory authority). An example here is the General Medical Council (GMC) who register Doctors for practice in the UK. The GMC have a number of aspects to their remit:

Ø controlling entry to the medical register;

Ø setting the standards for medical schools and postgraduate education and training

Ø determining the principles and values that underpin good medical practice; and

Ø taking firm but fair action where those standards have not been met.

23. Most professions also tend to require adherence to a Code of Conduct or Practice. Sometimes (e.g. with doctors) this is required by law, in other cases (e.g. surveyors) it is more akin to voluntary self-regulation. Codes can cover many aspects of professional behaviour and will frequently cover issues such as handling of client money and ethics. For example, lawyers are bound by a Code of Conduct that requires them to meet standards such as:

Ø act with integrity; and

Ø act in the best interests of each client and

Ø behave in a way that maintains the trust the public places in you and in the provision of legal services.

24. Codes of Conduct which lay down the professional standards expected exist in both private sector professions such as accountants and lawyers, but also in public sector professions such as doctors, teachers and the police service.

25. The final key defining characteristic of a profession is that there will tend to be a formal complaints and disciplinary mechanism in place. Disciplinary mechanisms can take many forms – for example RICS has a scale of interventions including reprimands, fines, consent orders and removal from the register in extreme cases. This ultimate sanction of removal from the register is common to most serious professions such as medicine, where the registered practitioner again knows that they are liable to be struck off the register if they do not meet the required standards.

26. In terms of complaints, many professions took a long time to develop systems that were sufficiently responsive to complaints relating to quality of service. However, in recent years this is an area that has improved, as witnessed by the prevalence of ombudsman schemes and the widespread involvement of registration bodies in handling complaints relating to service, in addition to just complaints relating to professional misconduct.

Specific areas where the extent of professional standards in UK banking are absent or defective

A sales-focused culture

27. The prevailing culture within both retail and investment banks is focused on sales rather than on serving customers. This sales-based culture manifests itself in the many mis-selling scandals in the banking sector – from precipice bonds, endowment mortgages, risky investment funds to PPI. It also fed a culture of irresponsible lending – where the purpose of the bank seemed to be enhancing short-term performance by lending as much money to consumers and businesses as possible. Banks targeted a certain level of lending, with seemingly little regard for risk or the long-term sustainability of the business. [2]

28. Our research finds that many consumers feel that banks are just trying to sell them products, rather than focusing on whether the products/services are appropriate and providing great customer service. In our survey in July 2011, we asked consumers about their experience of their most recent contact with their bank/building society, as well as experiences over the past year and their attitudes towards selling. [3]

29. Fifty four percent (54%) of people were offered an additional product or service the last time they contacted their bank (either by phone or in branch). This is in addition to the subject of their initial enquiry. Given the fact that some people may have used an automated machine in branch or an automated system over the phone, we feel that this is high figure. We do not believe there is an intrinsic problem with the fact that banks are offering products. Indeed, some respondents welcomed it. However, we are concerned that of the people who were offered a product 4 in 10 felt that the product or services offered were not suitable for their needs and 50% of people felt these attempts by bank staff to sell products were unwelcome.

"It's good to be informed of new products and their benefits, but it is better to help the customer find what they are really looking for and matching to their needs, rather than pushing a product for a bonus."

"I think they should take into account the financial status of the customer when trying to sell anything not of their own financial status"

"If I want it, I’ll ask for it! I feel strongly that they shouldn’t try to sell anything you don’t want."

"I feel captured when I visit my branch for a specific reason and they 'steal' my time trying to sell me another product."

"Up-selling by banks is a nightmare. Every time you want to make a minor change or make an enquiry you are bombarded with offers. If I want a product I will buy it."

"I hate feeling pressured when I am in branch. I just want to do what I went in for and not try and be sold stuff I don't require. If I wanted to I would research and ask about products/services, and most I can do online through internet banking if I wish."

30. However, we believe that the sales-focused culture is a manifestation of the low level of professional standards towards the top of most of the major banks. In our experience, many individual frontline bank staff, including those who submitted evidence to our Future of Banking Commission disliked the sales-focused culture within their banks. Comments received included:

"Counter staff are now under so much pressure to make referrals for sales they are threatened with 'disciplinary action' unless they meet targets."

"The way the banks treat their lowest paid customer-facing staff is appalling - never ending pressure, withdrawal of bonus payments for minor offences and humiliation in front of everyone for not achieving imposed targets that are constantly raised every couple of months."

"So that’s really my experience, and yes we were incentivised to sell products, we had targets we had to meet, we met those targets we got prizes, points and prizes, so the more you sold the more prizes you got, and the branch as a whole got prizes, and individuals got prizes"

"The main problem is that sales targets are set on high and filtered down to individual staff who are well rewarded if they succeed and threatened with disciplinary action if they underperform and don't achieve targets. No wonder there is so much mis-selling."

31. This illustrates an important theme which we will return to throughout our submission. It is not the case that the thousands of people who work in the banking sector are inherently bad people – indeed our members often provide positive feedback where an individual member of staff has provided them with good service. Rather, it is the culture of the institutions, the incentives which frontline staff face and the pressure which comes from further up the banks to sell – which has led to the recent mis-selling problems and the breakdown of trust.

Inappropriate and poor value products

32. Rather than designing products which meet customers’ needs and offer them a fair deal, too often the financial services industry designs products which it wants to sell. It does not adequately consider the target market for those products, or whether the product represents good value for money and can be understood by consumers. Too often, under the guise of ‘innovation’ the industry designs products which are designed to exploit consumer vulnerabilities by increasing the opacity of products or adding worthless product features such as ID theft insurance.

33. Retail banks also often sell products designed by their linked investment banking arms which are rarely good value for their customers and expose them to significant risks. These products included a five year "Fixed rate Investment ISA" sold by Barclays, which was actually used to fund the Barclays group; and a number of structured investment products sold by Santander. The Key Features document of the Santander product described it as "very low risk" and makes numerous references to "guarantees" of capital despite the fact that they are not covered by the Financial Services Compensation Scheme. Several issues of the Santander products were called "Guaranteed Capital Plus" plans.

34. In the case of PPI, some products paid the bank which sold them up to 87% commission. This means that when a consumer was charged £10,000 for this product - £8,700 would have been paid to the bank selling it in commission. [4] These products were sold to consumers who were taking out 25 year loans, despite the fact that the insurance only lasted for 5 years. These were toxic and extremely poor value products which should never have been sold to anyone – but the low level of professional standards in the banking sector meant that the banks did not consider these issues. Instead, they viewed these products as highly profitable and set high sales targets to sell these products to as many consumers as possible.

Breaking the rules

35. The fine levied on Barclays by the FSA for manipulating LIBOR has been just one of a number of examples of low levels of professional standards. Barclays is the first bank to settle with regulators and the FSA continues to investigate seven banks for possible LIBOR manipulation. It comes on top of the mis-selling of PPI we refer to above as well as small businesses being sold interest-rate swaps without a clear explanation of the risks. There have also been substantial penalties imposed on HSBC for money-laundering and Standard Chartered for breaching sanctions.

A lack of professional standards in the banking sector

36. Based on the characteristics of professionalism set out above, and our experience of the banking sector, it is possible to conclude that this is an industry that falls short in many key areas. In light of the important and valuable role that a well-functioning banking industry should play in our economy, steps should be taken to improve matters and we agree that this could be significantly improved by raising the level of professionalism.

37. Banking is for the most part a private activity, however, it also has an implicit (and explicit) public subsidy and a central role in ensuring that consumers and businesses are able to make payments, find a home for their savings and access the finance they need to invest. As such, it is important that their profitability should come from genuinely meeting the needs of their customers and the economy as a whole. Unfortunately, this has too often been missing in recent years.

38. The outcomes of the banking crisis have shown the extent that society as a whole is dependent upon a stable, well functioning, trusted and profitable banking sector.

39. The key weakness is that the banking system does not currently have a functioning system for managing the way in which its participants conduct their activities. The main existing control is through external regulation by the Financial Services Authority. However, this risks becoming an arms race in which some in the industry are incentivised to seek competitive advantage through regulatory arbitrage. The sector has also suffered from a tick-box culture where some banks see the law as the only guidance on acceptable behaviour. In sectors that a more deep rooted professionalism, there is greater emphasis given to honesty, integrity, values based judgements and the interests of clients and the public.

40. Instead of relying on a regulatory approach, professional sectors like those looked at above will tend to have a properly enforced code of conduct setting out core guiding principles. Banks and bankers are not required to sign up to or follow the principles – honesty, integrity and client interest – from the codes of conduct which govern other professions. In addition, there is no professional body that exists to maintain these standards, or indeed to hold a register of members.

41. Even where such principles are mentioned in the materials published by individual banks, they can contain get-out clauses which suggest that they are not taken seriously. This can be best illustrated by the Goldman Sachs ethics code highlighted by the Future of Banking Commission. [5] This stated:

"Integrity and honesty are at the heart of our business. We expect our people to maintain high ethical standards in everything they do, both in their work for the firm and in their personal lives".

42. But Goldman Sachs ominously added a rider:

"From time to time, the firm may waive certain provisions of this Code."

Lack of enforcement and consequences for those bankers which breach standards

43. In addition to a lack of standards, a further weakness in the banking industry is that unlike other professional sectors, the disciplinary mechanisms are weak – for example there is no formal mechanism for a senior banker to be struck off for poor performance. As we note below, many individual banks seem to have weak or non-existent controls regarding removing bankers which breach their own codes of conduct. There is also no transparency about what action individual banks have taken in response to breaches of their own codes of conduct.

Poor complaints handling / ignoring problems of low banking standards

44. The final area to explore is complaints handling. There has been a long-standing culture within the banking industry to respond slowly to any criticism of low banking standards and to ignore problems for many years. Even when it is clear that a firm’s conduct is creating significant problems for consumers and small business, issues are not properly investigated. Where problems are identified internally by banks, they fail to take timely action to correct them. One example of this is that even where Barclays identified problems with the way it was selling risky investment funds to older consumers, it failed to review its conduct and compensate consumers until investigated by the regulator. [6]

45. Legitimate complaints, from consumers are also rejected, ignored or fobbed off, with the hope that the consumer will give up and not take their complaint to the Financial Ombudsman Service (FOS). This can be seen in the statistics published by the banks and the FOS, where major high-street banks were upholding as few as 10% of complaints, but the FOS was upholding over 90%.

46. Instead of taking the opportunity to learn from customer feedback/complaints and improve their services, banks allow the problems caused by low professional standards to mount up. This means that problems develop until they reach such a scale that they become extremely costly to deal with and damage consumers’ trust in the sector.

47. We note the contrast between the supermarket sector and the banking sector. When supermarkets realise that a potentially unsafe product has been sold, they immediately institute a product recall and take the product off the shelves as soon as possible. They do not wait for regulatory action and nor do they wait for a large number of customers to complain.

Section 2: The consequences of the low levels of professional standards in UK banking and their impact on public trust

Question 2: What have been the consequences of the above for (a) consumers, both retail and wholesale, and (b) the economy as a whole?

Question 3: What have been the consequences of any problems identified in question 1 for public trust and in, and expectations of, the banking sector?

48. Through our events and engagement with thousands of consumers through our website, we have built up a picture of the impact on consumers of the financial crisis and their views of the banking sector. The crisis itself highlighted new concerns such as the safety of their deposits and the stability of the system which many previously took for granted. However, poor levels of customer service, a sales driven culture, unfair bank charges, problems of switching and a lack of transparency were raised as endemic issues which prevailed before the crisis. We would highlight the following issues:

Lack of transparency and poor levels of customer service: A consistent theme emerging from our consumer facing events was a concern about lack of transparency as a reason for dissatisfaction. For example, the difficulty in finding out what interest rate consumers were receiving on their savings and concern about the lack of transparency of charges. For those who had been caught out by unauthorised overdraft charges, the level of these charges seemed unfair and disproportionate to the cost incurred by the bank. Over the past ten years, there have been low levels of switching in the current account market and banks offering better rates and customer service not growing their market share significantly.

Mis-selling of products: Rather than concentrating on designing good quality products which meet the needs of consumers, banks have mis-sold poor value products to consumers. In 2011, UK banks received around 1 million complaints regarding the mis-selling of PPI and have set aside over £10 billion to cover the cost of compensating consumers. This poor value insurance was often sold inappropriately to consumers who would not be able to claim on it. Other mis-selling scandals have included risky structured products and precipice bonds, ID theft insurance, risky investment funds and inappropriate products sold to older consumers to fund their long-term care.

Reduction in competition due to the financial crisis resulting in worsening terms for consumers: The level of concentration in major retail banking markets has increased. This has enabled the largest banks to use their increased market power to increase their margins on mortgages, unsecured loans, overdrafts and credit cards. For example, UK banks Standard Variable Rate for mortgages now averages 3.7% above the Bank of England base rate, compared to 1.7% before the financial crisis. An increasing proportion of consumers are stuck with their existing mortgage provider, so called ‘mortgage prisoners’ and have little choice but to pay higher rates. The absolute level of interest charged on overdrafts is the highest since the Bank of England started keeping records in 1995.

A move from feast to famine in the availability of credit: In the run-up to the financial crisis, some mortgage lenders were offering loans of 125% of the value of the house and mortgages worth up to 95% were widely available. Following the financial crisis, many banks heavily restricted mortgage lending with the best deals only available to consumers borrowing 75% of the purchase price. The level of net mortgage lending has declined substantially.

A bloated cost base and inefficiently run banks: Government subsidies have reduced the incentive for banks to be run efficiently. This has allowed UK banks to avoid action to control their costs, with staff costs as a proportion of revenues (after impairments) now higher than at the peak of the boom.

Bail-outs provided by UK taxpayers/consumers: In the UK, direct injections of taxpayer money into banks have amounted to over £120 billion or £2,000 for every man, woman and child in the UK. The current value of the Government owned holdings in the banks mean that UK taxpayers are sitting on losses of around £37 billion from their stakes in RBS and Lloyds.

Impact on levels of trust

49. The financial crisis and banking scandals caused by the low level of professional standards have contributed to a loss of trust amongst consumers. In a poll we conducted after the LIBOR scandal, 60% [1] of consumers thought that the behaviour of UK banks had got worse since the start of credit crunch. 27% of consumers thought it had stayed the same and just 7% that it had got better.

50. Consumers continue to be dissatisfied with the level of improvement achieved by the banking sector. 84% [2] of people think that the banks have not done enough to change the banking industry to ensure another credit crunch does not happen again (up from 76% [3] in Sept 2011). Similarly, they do not think that the FSA or the Government have done enough to change the industry. [4] There is little sign that consumers believe that banks have addressed the fundamental problems with their culture. 71% [5] agree that banking culture hasn’t got any better since the start of the credit crunch and 80% [6] agree that there is a deeper problem in banking culture than just a few individuals making bad decisions.

51. There is also a desire for greater accountability amongst senior banking executives. 78% [7] of consumers think that when the law is broken by a bank the individual or individuals involved should be personally prosecuted.

52. Government and the banking industry have more to do to demonstrate to consumers that they have actually changed. Only 24% [8] of people are confident that the Government will act in consumers’ best interests when implementing banking reform, 67% are not confident. It is clear that an erosion of consumers trust in banks is part of a longer term trend of reducing public confidence. The table below shows data from the British Social Attitudes Survey. [9]

Table 1: "Do you think banks are well run or not well run?"





(1) Very well run




(2) Well run




(3) Not very well run




(4) Not at all well run




Comparison with other professions

53. We asked consumers their view of bankers compared to other professions with different levels of professional standards [10] . This covered their overall level of trust in different professions, their views about the profession and how likely the public believed bankers would be removed from the profession for bad behaviour. Overall bankers are seen negatively by the British public. The public has little trust in bankers and very few people think that they behave in an ethical manner. The public trusted bankers far less than doctors, engineers and lawyers.

54. Less than one in ten people think that bankers act in the best interest of the consumer. Bankers rank similarly to estate agents, but people are more likely to say that estate agents act in the best interest of the consumer than bankers (14% and 9% respectively).

55. Overall, the banking profession scores fairly poorly on taking action when bad behaviour happens. Around a quarter of people think that bankers would be removed from their position if they failed to comply with codes of conduct; if they lied or cheated; or if they consistently delivered poor service; or received a high number of complaints.

56. These results may suggest that the regulation of the industry isn’t working, in the public’s mind. Just one in ten people think that bankers are well regulated and just 29% of people think that if a banker fails to comply with industry codes of conduct or ethical standards that they will be removed from their job. This compares with 78% who believe that Doctors would be subject to this sanction for breaching their Code of conduct.

Table 2: Trust in professionals [11]


Don't trust



















Civil servants






Estate Agents












Table 3: Attitudes towards professions [12]

Properly trained and qualified

Act ethically

Act in the best interest of consumers

Well regulated

None of these





































Civil servants


















Estate Agents


















Table 4: Consumers’ views on the likelihood of people being removed from professions if they: [13]

Failed to comply with industry codes of conduct/ethics

Lied or cheated

Delivered consistently poor service

Received a high number of complaints from customers/clients































Civil servants










Estate Agents




















Comparisons with other sectors

57. Our Quarterly Consumer Report asked a series of questions about how consumers’ views of different sectors compares in terms of levels of trust [14] . The banking sector scores below average for trust, with only the ‘trades’, ‘gas and electricity’ and ‘cars’ scoring lower. The provision of longer-term financial products which covers both investments and pensions sold by banks and insurance companies also performs poorly in terms of trust.

Table 4: Trust in sectors where 1=do not trust at all and 5=trust a great deal [15]

Section 3: The causes of the low levels of professional standards in the UK banking

Question 4: What caused any problems in banking standards identified in question 1?

Special features of the market for banking services

58. When assessing the causes of the level of professional standards within the UK banking market, it is important to start by considering the special features of the banking market which can make it operate differently from other markets. These features affect the incentives on those in the banking profession to maintain the highest professional standards. Which? believe that these special features include:

Consumers are not well placed to judge the price/quality of a financial product or bank due to complexity and the length of time before the quality of the product becomes apparent. This undermines consumers’ confidence or willingness to engage effectively with these markets. Consumers will not be able to monitor or to exert meaningful market discipline on a bank with a riskier business model by moving their accounts elsewhere. Financial products are also long-term in nature and it may be several years before the true consequences of their purchasing decision becomes apparent or whether they have been mis-sold.

For many consumers and small businesses, retail banking products are essential but invisible ‘utility’ services, with our attention only captured when things go wrong. Consumers and businesses cannot function without continuous access to these essential services.

Banks have a unique role in providing parts of the economy with credit. If they want to borrow money, consumers and small businesses typically have few alternatives to the banking system. Banks may be able to take advantage of this unique position by making the provision of a loan depend (or appear to depend) on the purchase of an ancillary product such as insurance or derivatives.

Banks can generate the appearance of greater short-term profits by taking more risk. This was summed up eloquently in the evidence given to the Future of Banking Commission by the late Sir Brian Pitman. He said:

"One of the great differences I think between banking and other activities, is that [in banking] you can increase the profits of the outfit simply by changing the risk profile. I was chairman of NEXT [a retailer] at one time, and we couldn’t wake up in the morning at NEXT and say, what we’re going to do is greatly expand our business, what we’re going to do is increase the risk profile. But in banking, it’s perfectly possible, in the short term, to decide to be more risky than your competitors. That will get everybody to beat a path to your door, and will wind up [in the] short term with very big profits. And if you gear up the remuneration system appropriately, you can become rich quite quickly." [7]

In banking, significant revenue is incurred before the costs are fully realised. A borrower may pay interest for a while, but is not until they repay in full, or default, that the cost of the lending is known. For example, a bank which lends irresponsibly to consumers even though it is unlikely that consumers will be able to repay the money will make higher short-term profits. A bank which designs a complex and expensive insurance product and mis-sells it for many years, will make higher short-term profits, but at the expense of substantial redress costs in the longer-term. Which? calculates that the total provisions for mis-selling of PPI are now greater than £10 billion and certain to rise further.

If the individual banker’s remuneration is linked to this short-term performance, then regardless of their level of professional standards they will benefit substantially from this short-term performance. The true consequence of the bank’s business model and the bank’s low professional standards will only become apparent when consumers begin to default on the loans or complain about mis-selling.

Banks are inter-related through counterparty risk and taking similar exposures to the same source of risk that, with the subsequent steps to protect stability, erode market discipline and create moral hazard leading to banks that are too big or complex to fail. Bailing out poorly run banks which have not served consumers effectively distorts competition. It means that rather than providing a strong incentive for bankers to maintain high professional standards, UK consumers end up subsidising and bailing out the banks and the bankers with the lowest professional standards.

Banks receive wide-ranging explicit and implicit subsidies from the Government/authorities. These can include direct subsidies by the injection of taxpayer money and explicit guarantees for toxic assets. Most importantly, the implicit guarantee of banks which are too-big-to-fail means that these banks have a lower cost of borrowing (because those who lend to the banks know that the Government will bail them out if things go wrong). The extent and distorting impact on competition of this implicit subsidy is a key concern.

59. A consequence of these features is that the incentives on banks and their senior executives are often not aligned with genuine consumer benefit or the longer-term costs and consequences of banks’ commercial decisions. Intertwining riskier, highly leveraged investment/wholesale banking with essential retail activities creates conflicts of interest due to the presence of Government guarantees. All of these factors weaken the incentives on banks and bankers to maintain high professional standards.

60. Corporate governance in the banking sector should seek to achieve long-term sustainable value creation for shareholders and society. This should be achieved by putting long-term goals ahead of short term gains. Creating long-term sustainable value means putting the customer at the heart of everything the banks do and providing products and services of high quality at the best possible price. Corporate governance should seek to introduce a system of checks and balances which align the interests of banks, boards and shareholders with their customers. It should seek to control the inclination of management to take more short-term risk in ways which put the long-term stability of the individual bank and the financial system in jeopardy.

The causes of low banking standards

The historical perspective

61. There is a romantic vision of British banking that harks back to better days. This nostalgic view sees the bank manager as a respected figure in the local community, offering wise counsel to couples seeking to borrow money for their first home and a warm welcome to small businesses wanting loans to expand. Banks were trusted, ethical and customer-friendly in this rose-tinted world.

62. The reality was somewhat different. Although bank managers were locally respected, let’s not forget that the iconic bank manager Captain Mainwaring as portrayed in Dad’s Army was a bumbling incompetent. After the Second World War right through to the end of the 20th century, British banks were widely criticized and frequently stumbled into crisis. In the 1950s, the Committee of London Clearing Bankers operated as a closed shop when it came to interest rates, wages and salaries, protected by an agreement not to poach each other’s staff. In the 1960s, a Prices and Incomes Board report said that banks were overstaffed, over-branched, secretive and did not stay open long enough. In the 1970s, fifty fringe banks had to be rescued in the secondary banking crisis having become over-dependent on leverage and wholesale funding. In the 1980s after Big Bang, they blundered into investment banking and then in the 1990s they blundered out again.

63. But while banking was not a particularly well-managed industry in the second half of the twentieth century, it was incompetent, clubby and protectionist rather than unethical - What caused it to change?

64. The origins of its downfall lay in the 1970s. Free market economics led to the deregulation of finance with the Wall Street reforms of 1975, the Big Bang reforms of the London stock market in 1986 and the progressive integration of investment and retail banking in the US culminating in the repeal of the Glass Steagall Act in 1998. Having been constrained by close supervision and legally enforced structural constraints for half a century, banks were now free to grow their businesses as they pleased.

65. This coincided with faster communications, the digital revolution and the dismantling of trade barriers. Computing and programming power and new theories of risk management expanded the derivatives market and deal hungry investment bankers invented new products such as currency swaps, CDOs, interest rate hedges. These expanded turnover in financial services and transformed the rewards available to practitioners.

66. In parallel with free market deregulation and financialization, shareholder value was elevated above other corporate goals. Legitimized by the academic research of Alfred Rappaport and others, business people came to believe that anything was justified provided that it created shareholder value. There was a relentless drive to grow earnings per share characterized in the 1980s and 1990s by cost cutting, financial engineering and a wave of mergers and acquisitions.

67. This affected the banks in two ways. First, it made heroes of the investment bankers who propagated these seeds, validating their values and business practices. These included vast compensation packages and a bonus driven culture. Investment bankers were promoted to senior positions and the investment banking habit of putting the deal above the relationship became widespread.

68. Second, the people running the banks applied the shareholder value creed to their own businesses. In its best form, this was no bad thing. Lloyds Bank under Sir Brian Pitman led the shareholder value charge, cutting costs, eliminating waste and harnessing technology to the benefit of the bottom line. Less able bankers sought to achieve the same financial results by leveraging off the backs of their customers, selling them inappropriate products and running huge risks. Some bankers were prepared to run these risks and cut corners partly because they got paid so much that they could move on before the risk crystallized but also because they had shareholders on their backs if they did not deliver short-term results.

69. These shareholders made it clear that they would sell out to the highest bidder and underperforming banks for example Midland in 1992 and NatWest in 1999 were taken over. Pleasing shareholders therefore became a high priority for banking chiefs and fearful of the price of failure, corners were cut. As the investment banking culture spread throughout the British banks, customers became secondary in the rush for personal and corporate rewards and by the dawn of the 21st century banks had entered the era of ‘anything goes’.

The culture of banking, including the incentivisation of risk-taking;

70. Which? believe that the prevailing culture within UK banks has been a major cause of the low level of banking standards prevalent in the UK. The culture of an organisation plays a significant role in determining the behaviour of management and staff within it. It determines the way companies treat people and the other organisations they deal with. Culture determines the objectives set for bankers and what the organisation expects them to deliver. Culture influences how staff are rewarded and whether they feel empowered to challenge unfair treatment or excessively risky behaviour.

71. Good cultures can be characterized by terms like ‘integrity’, ‘fairness’, ‘respect’, ‘honesty’ and ‘responsibility’; bad cultures are the opposite. The tone comes from the top and then has to be transmitted to the firm’s employees whose dealings with the outside world and with each other determine whether the culture is good or bad.

72. Superficially the major British banks have good cultures. They publish codes that are difficult to fault as statements of intent. Barclays’ code of conduct, displayed on the company web site and signed by John Varley prior to his departure as chief executive on 31 December 2010, is typical. A key section read as follows: ‘Our organisation was founded on traditional values of trust and honour and our success has been, and continues to be, dependent not only on the quality of our products and services, but on the way in which they are delivered. We expect every Barclays employee, and others who work on our behalf, to conduct themselves according to consistently high professional and ethical standards. This expectation applies to each of us, whatever our role and wherever we are located.’

73. Standard Chartered’s web site states: ‘By doing things the right way, we can support our customers and clients while having a positive impact on the wider economy. Our distinctive culture and values act as our moral compass and are the reason why clients and customers choose to bank with us and our employees want to join and stay with us. Our five core values are about openness, collaboration and putting the needs of the customer first.’

74. HSBC’s Values and Business Principles encourage employees ‘to make decisions based on doing the right thing but without ever compromising the ethical standards and integrity on which the company was built.’

75. Lloyds TSB’s Code of Conduct states ‘We will provide and promote a range of products and services which is responsive to customer needs and offers value for money. We will seek never to give inadequate or misleading descriptions of products or services. We endeavour to ensure that our products and services are readily understandable by our customers.’

76. When speaking in public senior British bankers are often explicit about the importance of culture and ethics in banking. Giving the annual Today programme lecture on 3 November 2011, Barclays then chief executive Bob Diamond said: ‘Culture is difficult to define, I think it's even more difficult to mandate - but for me the evidence of culture is how people behave when no-one is watching. Our culture must be one where the interests of customers and clients are at the very heart of every decision we make; where we all act with trust and integrity.’

77. On 15 March 2010, Stephen Green, at the time chairman of HSBC, told the Which? Future of Banking Commission: ‘No banking business can afford to do without a board-led, senior management-supported, ethical approach to behaviour- to understand that there is a purpose to the business that you do, which is not simply measured by short-term profoundly important. Unless that culture is there in an organisation, no amount of rule setting and no amount of careful compliance is going to be an adequate substitute.’

78. Stephen Green’s comments proved to be percipient. We are not speaking here just about the reckless business practices that caused the banking crisis of 2007-8- although those practices do not stack up well against objective standards of responsible behaviour - but the evidence of malpractice involving most major British banks that emerged over the summer of 2012.

79. Unethical behaviour evidently happened in many sectors of banking. In retail banking, millions of customers were sold PPI that they did not need; in corporate banking businesses were sold interest rate and foreign exchange swaps without a clear explanation of the risks; in the central market the crucial reference point LIBOR was rigged; in clearing and settling money laundering in Latin America was facilitated on a grand scale and US sanctions against Iran were breached. The sheer volume of these cases and the variety of products and number of institutions involved indicate an industry badly in need of reform.

80. Many of these episodes involved banks where the top management appeared to have set explicit and impeccable cultural standards for employees. It was Barclays that was first fined for LIBOR rigging; Lloyds that mis-sold some of the most expensive and toxic forms of PPI and has set aside £4.275 billion to compensate customers; HSBC that had to set aside $700 million to cover expected money laundering penalties; and Standard Chartered that paid $340 million to settle sanctions busting allegations.

81. Coming on top of widespread customer dissatisfaction with High Street banks about service levels and transparency and complaints from small and medium sized enterprises about the price and availability of credit, it is difficult to escape the conclusion that when it came to culture, Britain’s banks failed to live up to their promises.

82. There are a number of key cultural failures that Which? believes contributed to the low level of banking standards:

Lack of effective leadership

83. Culture change can only be led from the top. Senior Executives must seek to diffuse a positive culture throughout their organisations to all of their employees. Staff at all levels must know the standards that are expected of them and expect this standard to be attained by all of their colleagues. Senior Executives must embody the culture that the firm are trying to achieve in order for it to take hold across the firm.

84. In too many banks, senior management failed to show effective leadership and ensure that those within their organisations upheld high banking standards. As was noted by Stephen Green, former HSBC executive, "too often, people had given up asking whether something was the right thing to do and focused only [on] whether it was legal and complied with the rules". In other areas, senior executives may have set the right tone, but failed to ensure that this approach was followed by middle management or to monitor whether high banking standards were being achieved.

Weak controls and lack of Management Information

85. Setting appropriate banking standards is very important. However, it is even more important that such standards are adhered to and, when concerns are reported, they are properly investigated. This needs to go beyond simple having a "policy" in place, but to check whether it is being adhered to by using Management Information, feedback from customers and mystery shopping. For example, if senior management say that they have a culture in place which "deals with complaints fairly" then we would expect the Board to interrogate what specific evidence and monitoring systems they had in place to demonstrate whether it was being achieved.

86. In many cases it has become clear that senior management failed to put in place sufficient monitoring and failed to promote a culture where concerns about low banking standards are reported. It is notable that in the run-up to the financial crisis those who did raise concerns about particular strategies tended to be side-lined. Even where concerns were reported, the culture of the banks meant that little action was taken. Within Barclays, risks about LIBOR manipulation were reported, little action was taken and the poor conduct continued. Given that Barclays had a clear "policy" in place on acceptable conduct which senior management claimed to "take very seriously indeed" [8] it seems strange that such a serious issue was not reported to the Board.

Failures in decision making / risk management

87. Many banks failed to ensure that their decision-making processes were effective, took proper account of risk or were subject to robust challenge. Too many banks appeared to have a culture of optimism, which ignored the risks of a particular course of action. [9] Risk management was seen to be a constraint on the bank, rather than an integral part of the decision-making process. Failures in risk management or a culture which excludes risk management poses particular problems due to the ability of banks to make substantial short-term profits by increasing risk. Banks also failed to document why particular decisions were taken, or to ensure that they were subject to robust challenge.

Tick-box culture

88. In too many banks a ‘tick-box’ culture developed which saw regulation or regulators as the only arbiters of acceptable behaviour. We are aware of an instance where a firm identified ‘no major FSA concerns’ and ‘no major regulatory sanctions threatened’ as the only indicators that senior managers had met their target of treating customers fairly.

89. This attitude spreads to those who purport to represent the industry. In their application for a Judicial Review of the FSA’s action on PPI, the British Bankers Association contended that the banks did not have to provide consumers with an oral explanation of the terms of the policy, but merely had to tell them that it was important that they read the policy summary. It is a strange attitude to use a regulatory justification for failing to explain the terms of your product to consumers and instead referring them to a document which could involve pages of small print.

Culture of gaming the regulator and rules

90. In common with a cultural approach to ‘tick-box’ compliance with the rules, in some banks there also seems to be a culture of attempting to ‘evade’ or ‘work around’ regulations – to operate within the letter but not the spirit of the law. It is clear from the FSA letters that Barclays sought to "gain advantage through the use of complex structures, or through arguing for regulatory approaches which are at the aggressive end of interpretation of the relevant rules and regulations". [10] This was described as a culture of "gaming".

91. This culture of gaming also appears to have been entrenched into the way some banks measure and manage risks. Which?’s Future of Banking Commission identified one bank, which expanded leverage and risk in ways which failed to show up in the official ‘regulatory’ measures of capital. As Jon Danielsson of the London School of Economics told the Future of Banking Commission, it was "straightforward for any trader of financial institution to manipulate the risk measurement … indeed this is one reason why so many banks lost so much money in the crisis. They were measuring risk incorrectly, in no small measure because they were gaming the system to extremes." [11]

Reward, remuneration and incentives

92. Even when senior management did pay lip-service to the need for high banking standards, they often failed to put in place the right performance management, reward and remuneration policies to ensure that all staff upheld them. If staff see colleagues promoted for hitting revenue targets, regardless of how those revenue targets were achieved, then a culture of low banking standards will be encouraged.

93. As Jayne-Anne Gadhia noted [12] , during her time at RBS:

"people wanted to do the right thing for customers and wanted to do the right thing for shareholders…but the reward and structuring was all around driving profitability".

94. She stressed that she was setting a different focus in her role as Chief Executive of Virgin Money:

"it’s really important to be clear on culture and then drive it and reward those behaviours, otherwise it won’t just happen".

95. Even where low banking standards did result in substantial losses from the firm, many banks have been unwilling to clawback remuneration from senior executives. We cover the impact inappropriate remuneration schemes had on the level of banking standards below.

Failure to acknowledge the need to change the culture of banking

96. Finally, we are concerned that the banking industry still fails to realise that there needs to be a substantial change in the culture and ethics of the profession. Those within the banking industry often blame "international standards on capital and setting risk" for the crisis, rather than acknowledging the key cultural failures of the industry. Until those at the top, acknowledge the need for change then the banking industry will continue to be locked into a downward cycle of scandal, recrimination and loss of trust.

The impact of globalisation on standards and culture; global regulatory arbitrage; the impact of financial innovation on standards and culture

97. These issues may have had an impact in that they relate to certain factors that Government and regulators may take into account which would prevent them from taking action against individuals and banks with low professional standards. In the run-up to the credit crisis, regulators were obligated to consider the desirability of facilitating innovation, the international character of financial services markets and the desirability of maintaining the attractiveness of a particular location for financial services activities.

98. This leads to a concern that regulators may fail to take action to challenge low banking standards because of their concerns that this may conflict with their other objectives. Regulators may believe that any action to tackle low levels of banking standards, particularly if it is unilateral could damage the attractiveness of a particular location for financial services activity.

Corporate structure, including the relationship between retail and investment banking

99. The course of history suggests that financial crises will recur at regular intervals and that it is not helpful to completely eliminate the risk of failure (or to claim that a Government or regulator will eliminate the risk of failure in all circumstances). The current corporate structure of the UK banking system allows banks to take retail deposits and be an essential part of the payments system, while at the same time engaging in all manner of risky and speculative investment banking activities including proprietary trading.

100. This corporate structure helps to create banking institutions that are ‘too big to fail’ and results in the Government (and ultimately taxpayers) guaranteeing that these banks will continue in business. The implicit (and in reality explicit) taxpayer guarantee encourages banking corporate structures which intertwine highly leveraged wholesale investment banking activities with retail deposits and the payment system. When these, large complex banks are at risk of failure, in the past the Government has had little choice but to extend support to the full spectrum of retail and investment banking activities. The result has been that the UK taxpayer has provided guarantees against losses by banks on loans they made to hedge funds based in the Cayman Islands and losses on trading of complex derivatives.

101. Subsidies will inevitably be greater for those banks with low professional standards. This makes banking unique from other sectors. In no other sectors that we examine do firms actively obtain a government subsidy for behaving badly. The corporate structure also results in taxpayers paying the costs of low banking standards as they end up owning a majority stake in poorly run banks with the lowest level of banking standards.

102. Large, sprawling conglomerate structures also make it hard to enforce high-levels of banking standards across these vast organisations. Corporate structure also played a part in spreading the prevailing culture in investment banking into the retail bank. As the Future of Banking Commission noted:

"The reintegration of retail, commercial and investment banking symbolised a state of mind that said ‘anything goes in finance’. That mindset encouraged investment bankers to gear up their own balance sheets and chase down the retail banks with new derivative products. It persuaded previously staid financial institutions – such as Northern Rock, Bradford and Bingley and HBOS – that it was safe, perhaps even expected for them to gear up to levels previously seen only at the most racy investment banks."

The level and effectiveness of competition in both retail and wholesale markets, domestically and internationally and its effects

103. First of all, it is important to state that Which? does not agree that too much competition was responsible for the financial crisis or that competition is contrary to financial stability. Those who put forward that argument tend to think that ‘stability’ is achieved by preventing the failure of all large banks, no matter how incompetently or imprudently run.

104. Competition should be a dynamic process that rewards firms that successfully compete on the merits of their product offering, delivering good value and quality to consumers. Firms that serve consumers well should thrive while those that do not fail. Effective competition can both drive up standards and put pressure on business to offer good quality products and value for money. Which? would highlight three areas where the lack of effective competition has led to low levels of banking standards.

Ø The market power of the largest banks has increased, leading to worsening terms for consumers and dominant positions in the market for the largest banks with the lowest levels of banking standards.

Ø Distortions to competition from the government bail-outs and subsidies of the largest banks due to the lack of an effective regime to enable badly run banks to exit the market.

Ø Barriers to switching: Customer inertia (and more recently captive customers) where, perhaps more than in any other industry, due to the switching barriers they face consumers have an inbuilt tendency to remain with their existing banks. This in turn, weakens the incentive on banks to compete for customers by maintaining high banking standards, offering value for money and good customer service.

Market concentration and distortions to competition

105. Allowing mergers to take place which substantially increase the market shares of the largest banks results in less competition for consumers. It also increases the risk of the Government having to step in at some point in the future to support the largest banks due to the significance of their position in the economy.

106. The implicit subsidy distorts competition as it is clear that the subsidy is greater for larger institutions as the enhancement those larger banks gain from the probability of Government support being extended is larger. Small banks and new entrants (which are clearly seen as being small enough to fail) do not enjoy these benefits.

107. The suspension of normal competition law and the extensive support provided to the largest banks means that their market power is greater than ever. In 2001, Lloyds proposed acquiring Abbey National, but the OFT ruled that the merger would be anti-competitive and that it should be referred to the Competition Commission, which eventually blocked the merger. However, in 2008 the Lloyds/HBOS merger was rushed through in the teeth of the financial crisis and created a bank which was just as dominant in the market. In no other market, would a business with such low level of professional standards be given state aid and Government support to enable it to gain a dominant position in the market.

108. The big five [13] (Lloyds, RBS, HSBC, Santander and Barclays) have market shares of:

Ø 85% of the current account market, compared to 71% before the financial crisis

Ø 67% of mortgage gross lending, compared to 38% before the financial crisis

Ø 61% of the savings account market, compared to 47% before the financial crisis

109. The ICB report was clear that even after the limited divestments by Lloyds and RBS, major retail banking markets will still be more concentrated than at the time of the Cruickshank report. [14]

Consumer impacts – barriers to switching

110. For proper competition to exist, consumers should face low barriers to switching financial products and services. This allows consumers to drive improvements in products and practices by exercising their consumer power and switching to banks which offer better value for money, better products and better service. To successfully switch products, consumers first need to become aware that they are not getting the best deal, then they set about gathering information from other providers and comparing the products on offer by their existing bank. Finally, they need the confidence that if they do switch then the process will be handled smoothly.

111. In practice both real and perceived barriers to switching can be significant. A lack of transparency may mean that consumers are unable to compare the products offered by different banks. Concerns about the switching process going wrong or the hassle it involves may discourage consumers from switching. Low levels of trust or concerns about securing access to credit could also make consumers more wary of switching bank.

112. As part of our regular customers satisfaction surveys we ask about our members’ experience of switching. With regard to current accounts, switching rates remain low with an average of 6 per cent of Which? members switching every year. The biggest barriers to switching remain the doubts over whether the benefits of switching are significant enough, concern over the complication / hassle involved in the process and the risk of errors affecting regular payments.

113. Our research also finds that the complexity of the banks’ charging structures can often make it difficult for consumers to compare the cost of different bank accounts. In our recent research people found it virtually impossible to calculate how much their bank would charge them for using an unauthorised overdraft, or to compare charges between banks as the fee structures are so complicated. A Maths PHD student participating in the research was unable to accurately calculate the level of charges.

114. In the mortgage market, a glut of irresponsible lending followed by a move from feast to famine in the availability of credit has left a legacy of ‘mortgage prisoners’ – consumers who are trapped with their existing lender and unable to switch. In recent months, banks have taken advantage of these customers by increasing their Standard Variable Rates. Over 1.2 million customers have already been hit by these increases.

115. This lack of effective competition reduces the incentives on banks to maintain high banking standards. Many banks fail to compete by offering consumers better value products and higher standards of customer service. Many banks fail to increase the transparency of their products until forced to do so by regulators. For example, it is notable that some banks failed to clearly show the interest rate they were paying on their yearly statements for savings accounts until forced to do so by regulators.

The role of shareholders and particularly institutional shareholders

116. Shareholders and institutional investors have failed to ask any questions about the culture or level of banking standards within the banks which they own. We are unable to determine the precise reasons for their lack of interest in these matters. It could be that their short-time horizons play a part in their lack of interest. The prevailing culture within institutional investors could also be related to receiving large rewards for mediocre performance. It might also be the case that as the financial penalties for low banking standards are so small institutional shareholders view them as just another cost of doing business. Only when financial penalties are much higher will shareholders take a greater interest in these issues.

117. There was also an important failure by shareholders in encouraging banks to borrow and lend more with the aim of maximising short-term returns on equity. This quest for unsustainable short-term returns ended up driving low levels of professional standards and in the long-term generating huge losses for the banks (and ultimately taxpayers). Stephen Green, then group chairman of HSBC told the Future of Banking Commission [15] that:

"questions would be asked [by fund managers] about why we weren’t gearing ourselves up more, why we weren’t buying shares back, why we weren’t realising certain assets where the book value was substantially below the market value-all of [which was] rather short-termist in its focus"

Creditor discipline and incentives

118. It is clear that the incentives placed on creditors played a role in failing to prevent low levels of banking standards. During the financial crisis, bank shareholders lost substantial wealth but bondholders were largely protected by the Government guarantee. This led to a mis-pricing of risk and also reduced incentives to control risky behaviour and low levels of banking standards.

119. Retail depositors are not well placed to evaluate the credit risk of the bank in which they place their deposits. They are therefore not able to provide the proper incentives to encourage bank management to control risk. Those who lend to banks in the wholesale markets should be in a better position to impose market discipline by demanding higher rates of return from banks engaged in risky activities. However, these creditors may be reassured by the knowledge that they rank equally with depositors in a bank insolvency it is likely that the Government will protect their investment.

120. In the Irish banking crisis senior members of the Irish Government attempted to reassure senior unsecured creditors by saying that they ranked equally with depositors and that they would not be subject to a write-down unless depositors were affected in a similar way. However, at the same time the Government was making it very clear that it had no intention of imposing losses on retail depositors.

Corporate governance including: the role of non executive directors; the compliance function and internal audit and controls

121. In well run organisations, appropriate corporate governance should act as a check and balance and prevent low standards from being entrenched. However, within some banks the systems of corporate governance and compliance failed in a number of respects:

Lack of Board review of culture and incentives

122. The Board must also have a clear understanding and focus on risks, both to the institution and in its treatment of customers. Ideally the board should have three qualities: the ability to lead the business; the expertise to take good decisions; and the independence to challenge and change course. The Board should have a structured process in place for reviewing the firm’s culture. This should include leadership, strategy, decision-making, controls, remuneration and whistleblowing policies.

Lack of Board knowledge about the level of professional standards throughout the bank

123. Boards seemed to have little appreciation or knowledge of the level of professional standards throughout the organisation. It is not clear what material was presented to them by the executives or whether warnings were given and ignored or were simply not considered. It is clear that in many areas, firms failed to provide sufficient information to their Board about the root causes of consumers’ complaints or what action the banks were taking to address these issues.

Boards failure to encourage a culture where poor professional standards can be challenged and eliminated

124. Boards need to encourage a culture where concerns about poor banking standards are escalated to board level. That Boards failed to do this shows that in many cases they were not concerned about poor levels of professional standards or that they were remiss in failing to ask the right questions about these areas.

Remuneration incentives at all levels

The wrong incentives

125. Which? believes that an important root cause of low banking standards has been that staff at all levels of the bank, from senior executives down to frontline staff are given inappropriate incentives and targets. This can be short-term profitability, to sell as many products or hit certain sales targets regardless of whether the products are suitable for the customer. It is clear to us that incentive schemes are the root cause of the vast majority of mis-selling scandals, from PPI to interest-rate swaps. Incentive schemes can also lead to irresponsible lending if senior and frontline staff are encouraged to expand lending to meet short-term profitability targets, regardless of the risk to the business.

126. Commission payments and sales targets have been the main drivers behind a succession of mis-selling scandals that have caused significant consumer detriment and cost the industry billions of pounds. The potential for consumer detriment is particularly great in a market such as financial services where low financial capability and product complexity leave consumers vulnerable. Furthermore, the poor quality and suitability of the product often does not become apparent until many years after it is sold.

127. The link between mis-selling and remuneration structures can clearly be seen in, for example, the FSA’s final notice to Alliance & Leicester, which was fined £7 million for mis-selling PPI. It shows that advisers at Alliance and Leicester received six times as much bonus for selling a loan with PPI as for selling a loan without PPI, whether the product was appropriate for the customer or not. If they did not sell loans with over 50% of loans then they would see a quarter of the value cut off their bonus. At another bank, executives set targets to sell PPI with 80% of loans [1] . Pressure put on staff to meet sales targets were also a factor in the mis-selling of precipice bonds by Lloyds TSB. Despite the risk of capital loss, these products were sold to investors who had no previous experience of investing in equities. [2]

128. Culture is important here and for frontline staff, pressure from sales targets (with a threat of dismissal if they are not met) is just as potent a reason for low levels of banking standards as extra bonuses for selling products.

129. We return to our theme: that it is the culture of the banks and the incentives given to staff throughout the organisation which has led to the low level of banking standards. It is clear that those at the top of the banking organisations gave insufficient focus to the incentives they were setting for staff.

130. The FSA report into the collapse of HBOS found that "staff were incentivised to focus on revenue rather than risk, which increased the appetite to facilitate customers, increase lending and take on greater risk". Targets were set which incentivised behaviours including "increasing the appetite to lend; increasing the appetite to take on greater credit risk;" [3]

131. In contrast with this approach, Sir Brian Pitman was clear to the Future of Banking Commission that:

"Incentives for sales targets have been a large part of the problem … It’s a little short of crazy to incentivise people to maximise the number of loans they’re going to grant".

132. Unfortunately, for consumers and the economy, the culture of the UK banks moved substantially away from that approach in the run-up to the financial crisis.

133. Extracts from FSA enforcement notices showing the link between incentive schemes and mis-selling:

"advisers receiving inbound calls needed to sell six loans without insurance to achieve the same bonus that they would receive from only one sale with full insurance" and that "provision was made in the bonus schemes that advisers would suffer a 25% penalty to their bonuses if they did not achieve certain targets [1] ".

Similarly, the FSA’s final notice to HFC Bank, a member of the HSBC Group, shows that "the attainment of the PPI target penetration rate had a potentially significant impact on bonuses (i.e. it could double and potentially quadruple the value of the bonus) [2] ".

"During May 2000, it was considered that sales of the Extra Income and Growth Plan (EIGP) were a possible way of getting high volumes of business, thus helping distribution channels reach their sales targets….The financial consultants within the Network were under general pressure to perform and to meet sales targets for all products. The numbers of sales made within the Network were regularly monitored. Area Managers within the Network regularly emphasised the importance of selling the EIGP." [3]

"The risk of pressure selling was further increased by the financial incentive schemes LVBS operated. Until 31 March 2007, LVBS's telephone sales staff received bonus incentives based only in respect of their PPI sales, not in respect of their loan sales (for the period up to 30 September 2006, the amount of bonus the sales person received per PPI sale varied depending on their penetration rate for PPI). Even from 31 March 2007, the incentives to sell PPI still outweighed those for loans (on average a sales person could expect to earn four times as much from PPI incentives as from loan incentives). The amount a sales person could make from incentives was substantial – up to two thirds of their base salary. Telephone sales team leaders were also incentivised throughout the relevant period on the basis of the PPI sales of their teams, which created a potential conflict of interest with the supervision of their sales staff, especially as for a short period up until 1 June 2005 they were directly responsible for conducting a programme of sales monitoring." [4]

"In one medium-size firm selling secured loans, sales staff were incentivised by a £20 bonus per PPI sale and the bonus structure on PPI and the loan could double their basic salary. In addition, targets of 50% PPI penetration were set for each member of staff for the award of these bonuses. Individuals failing to meet this target were not awarded any bonuses and were described as having ‘a training need.’ Furthermore, there was no clawback of the bonus if the customer subsequently cancelled the policy." [5]

"Our review has found serious failings in the sale of interest rate hedging products to small and medium sized businesses (SMEs). We have evidence which raises concerns about the sales we have reviewed in certain banks. These concerns include (i) inappropriate sales of more complex varieties of interest rate hedging products (such as structured collars) and (ii) a number of poor sales practices used in selling other interest rate hedging products. We also found that sales rewards and incentive schemes could have exacerbated the risk of poor sales practice." [6]

Arrangements for whistle-blowing; external audit and accounting standards

134. Arrangements for whistle-blowing could have been a cause of low banking standards if they were so weak that they prevented bank staff from challenging unethical behaviour. It is not clear how often reports of possible whistle-blowing about low levels of banking standards were reported to banking Boards.

135. Accurate and clear financial reporting and auditing of banks is crucial to the stability and integrity of the financial system. However, weaknesses in accounting and auditing standards can contribute to poor banking standards. Rather than being a transparent window onto corporate performance, unless subject to significant oversight, the accounting reporting methods themselves can encourage low banking standards which conceal risk. Honest and clear accounting and auditing standards are particularly important in the banking sector, where unlike other industries, banks are able to generate short-term profit by taking extra risk and mis-selling products.

136. Despite their primary responsibility being to shareholders, auditors frequently failed to provide an early warning of declining banking standards. It is also clear to us that auditors are not typically asked to monitor or ‘audit’ the level of banking standards within a group and even if they are asked to do this we were unable to find any examples of auditors exposing low levels of banking standards. As audit firms may also provide ancillary services to the banks, they may have reduced incentives to expose poor practice.

The regulatory and supervisory approach, culture and accountability

137. Which? believes that the overall regulatory approach, culture and accountability played a significant role in failing to tackle low levels of banking standards. We would highlight the following areas which we believe have led to problems in banking standards:

Overall regulatory approach

138. Rather than taking robust action against banks with low levels of professional standards, the prevailing regulatory approach of the FSA was to concentrate on ensuring the information that was provided to consumers complied with the rules. Regulators did not pay sufficient, or indeed any, attention to the culture within a firm or the incentives given to staff and how this influenced standards. Instead, regulators focused on ensuring that firms complied with the rules. This ‘tick-box’ approach had unsatisfactory consequences for the conduct of firms and the actions of the regulator; firms were given the green-light to continue practices that led to poor standards as long as rules were not broken and the regulator was only concerned with policing those rules. We think this could have played some part in fostering the damaging culture within firms which we referred to above; any course of action was acceptable unless it was specifically prohibited by the regulator. Therefore, neither the regulator nor the firm had an incentive to push for changes or reform.

Failure to be proactive

139. A failure to be proactive meant that by the time problems emerged that were caused low levels of banking standards they had already caused substantial detriment to consumers, small businesses and ultimately for the balance sheets of firms. The issue of PPI is a good example of this.

140. PPI was designed to cover your debt repayments if you couldn’t work – for example, if you become ill, have an accident or are made redundant. It was sold alongside loans, mortgages, credit cards and store cards. In the past decade, PPI has been subject to widespread mis-selling, and this has resulted in millions of consumers holding expensive insurance they were never able to claim on.

141. PPI offers a clear example of a poorly functioning, uncompetitive market. The sale of this product involved: (a) a lack of adequate disclosure to customers about the product they were buying, and the resulting asymmetry of information between provider and customer; (b) inappropriate default settings, where it was left to the customer to opt out of buying the product when purchasing another financial product; (c) the existence of inappropriate commission structures, which focused the rewards for salespeople on selling PPI, rather than serving the customer well; and (d) accounting practices which allowed firms to book an upfront profit from selling single premium PPI policies.

142. The issue of PPI was not dealt with in a proactive manner by the FSA or the other regulatory authorities. Despite Which? raising concerns about the mis-selling of PPI in 2002, Citizens Advice submitting a super complaint to the OFT in 2005 and a market investigation reference to the Competition Commission in 2007 the problems caused by the mis-selling of PPI continue today.

143. The FSA began mystery shopping and supervision exercises in 2005 and then called on firms to take "urgent action" to ensure that their selling practices for PPI were compliant with regulatory requirements. However, firms did not respond to the FSA’s regulatory action and continued to mis-sell PPI. The FSA responded by conducting further rounds of mystery shopping and eventually conducting enforcement action and levying fines. However, these fines were such a low proportion of the revenue gained by banks from selling PPI they failed to have the desired effect. It took until 2010 for the FSA to finalise it’s PPI complaints rules. However, these rules were then challenged by the banking industry and sent to judicial review. This judicial review was thrown out in April 2011 and has led to billions of pounds of redress being paid out to consumers who were mis-sold. To date, the big 5 banks (Lloyds, Barclays, RBS, Santander, HSBC) have set aside £8.9 billion to pay PPI compensation and up to the end of June 2012 £5.4 billion had been paid out to consumers. A more proactive approach from the regulator could have led to this problem being stamped out much earlier and reduced the costs that businesses had to bear.

Failure to place the right incentives on individuals and banks to uphold high levels of professional standards

144. Ill conceived commission structures can contribute to mis-selling by creating inappropriate incentives for staff. Such incentives structures should have been picked up by the regulator and flagged as having the potential to lead to mis-selling. They were not.

145. Even where the regulator did eventually uncover poor conduct, the penalties imposed were insufficient to create a credible deterrent or an incentive for other firms not to repeat their actions. Once again, PPI provides an excellent example.

146. The fines first issued by the FSA for PPI mis-selling were such a low proportion of the revenue gained by banks from selling PPI that they failed to deter future mis-selling. Even after the FSA had decided to significantly increase the level of penalties it imposed for PPI mis-selling, the fine levied on Alliance and Leicester represented less than 3% of the revenue they gained from selling the product (around 5% of the net income or profit). [7]

147. If you compare this to other regulators you can see the FSA were not issuing fines that were in line with other regulators. Under the Competition Act 1998, the OFT has the power to levy a financial penalty of up to 10% of global turnover of the business involved. OFWAT and OFGEM have similar powers. British Airways was fined £121.5 million for collusion over fuel surcharges. [8] Argos and Littlewoods were fined a total of £22 million for fixing the price of toys and games. [9] OFWAT fined Severn Water £35.8 million for mis-reporting information and providing sub-standard service. [10] Unless fines act as meaningful deterrents they have the danger to be considered as just another cost of business.

Lack of enforcement action against individuals

148. Despite, widespread mis-selling, no senior management in financial services organisations had enforcement action taken against them for the mis-selling of PPI. The only senior management individual to have enforcement action taken against them for mis-selling unsecured loan PPI was the chief executive of a furniture retailer (Land of Leather). [11] Not a single individual senior banking executive has ever had enforcement action taken against them for presiding over the mis-selling of products.

149. One area where the FSA has had some success in recent years is in the publication of complaints handling. Part of this success can be attributed to the decision to ensure a specific executive is responsible for overseeing complaints handling. This level of personal accountability has led to increased transparency and a sharper focus on how complaints are dealt with.

Culture of the regulator

150. The culture of the regulator meant that it did not challenge inappropriate banking standards. As the regulator was so focused on ensuring that rules were complied with rather than looking at wider issues of culture and standards it did not have the necessary culture itself to challenge firms. Institutional culture can only come from the top of an organisation via senior management and the regulator’s statutory objectives. Taking this into account it is somewhat concerning that the incoming FCA will have a statutory objective of ‘ensuring the relevant markets function well’. The wording of this objective is not the type of objective that could contribute to improving the culture of the regulator itself.

Lack of transparency on the part of the regulator

151. Even when the FSA began to examine the culture of the banks it regulates, it failed to provide timely disclosure of its concerns. The letter sent by Adair Turner to the Barclays Chairman states that "Barclays has a tendency to continually seek advantage from complex structures or favourable regulatory interpretations". Given that as noted by Lord Turner, such activity was "unprecedented" it seems strange that the regulator would fail to highlight its concerns in public and fail to require Barclays to report the regulator’s concerns to its shareholders.

Accountability and governance of the regulator

152. The governance structure of the regulator will also have played a role in its failure to tackle low levels of banking standards. In the past, we have seen a situation where 10 of the 12 members of the FSA board had been currently or previously employed by the industry. This raised the risk that only the prevailing mindset of the industry gained credence in Board deliberations. There was a clear preference to codify existing industry practice instead of asking searching questions about whether markets were working efficiently and in the interests of customers.

The political environment

153. The political environment in which the regulator was operating in also played a part in its failure to take action to protect consumers and to enforce high professional standards. Politicians on all sides queued up to criticise the regulator as promoting ‘chronic overregulation’, inhibiting ‘efficient businesses’ or undermining the competitiveness of the UK as a location for financial services. This type of rhetoric was uttered by all parties and must have contributed to a regulator that was not willing, or able, to intervene when it found evidence of poor standards or damaging culture.

The corporate legal framework and general criminal law

Lack of individual accountability / responsibility

154. For too long, senior management have managed to evade the consequences of their policies which have led to low levels of banking standards and significant consumer detriment. Some senior management have presided over a culture which encouraged the mis-selling of products. Other executives actively set incentive schemes in their banks which led to irresponsible behaviour. They have not been held accountable for their actions. This sends a dangerous message to senior management that they can ignore the lack of professional standards within their bank and set inappropriate sales targets for products on their frontline staff and evade the consequences.

155. In other cases a lack of individual accountability can lead to problems of low banking standards being ignored by the firm. For example, if no single, defined member of senior management is responsible for ensuring that consumer complaints are dealt with properly then any problems of unfair treatment in this area will likely be ignored. We believe that the same problem also applies to issues such as the design of banking products. If there is no one individual responsible for signing off the terms of a new and potentially risky product then any concerns about low professional standards could be ignored. Individual accountability could force bankers to focus more on higher levels of professional standards.

156. Individual accountability forces people to consider broader issues and also means that they are firmly in the frame of the regulators if the product/process proves to be toxic for consumers. Senior management have to be clear that low levels of professional standards and breaching regulations will result in serious consequences for themselves and for their firm’s reputation and bottom line.

157. Even when management action could arguably have contributed to bank failure, the burden of proof required made individual action difficult. The FSA’s report into the collapse of RBS noted that "Enforcement Division lawyers concluded that there was not sufficient evidence to bring enforcement actions which had a reasonable chance of success in Tribunal or court proceedings". Lord Turner recognised that "many people [would] find this conclusion difficult to accept".

158. A lack of criminal sanctions could also have led to low levels of banking standards. It is clear that there are no criminal sanctions which can easily be imposed on those bankers who manipulated LIBOR. There is evidence from the enforcement of competition law which should be applied to the banking sector. A survey of companies by the OFT highlighted the importance of sanctions which operate at the individual, as opposed to corporate, level. In terms of the motivating compliance, criminal penalties were seen as most important, followed by the disqualification of directors, adverse publicity, fines and private damages actions. The OFT has noted that "Imprisonment is widely regarded as a very strong means of deterring anti-trust infringements and even a relatively low probability of facing a jail term may prove significantly deterrent relative to jurisdictions where this possibility is altogether absent." [12] When combined with an appropriate leniency regime, criminal sanctions can be particularly effective if they increase the probability of being betrayed by fellow participants in illegal activity.

Inability of consumers to obtain redress collectively

159. Which? believes that in some areas, low levels of professional standards in the banking industry may have arisen or persisted due to the absence of an effective and comprehensive redress regime. Where clear rights to redress exist alongside an effective means of enforcing those rights, there is an increased incentive for companies to improve standards.

160. While the Financial Ombudsman creates a well-used system for individual claims, our experience shows that due to the time and hassle involved, consumers will generally only seek individual redress where the loss is significant and/or they feel substantially ‘wronged’. However, many practices will only lead to a small individual loss and typical consumer behaviour means these issues remain largely unchallenged on an individual basis. Nevertheless, such practices can still present a significant incentive to ‘bend the rules’ or lower standards because where they affect large numbers of consumers, the collective benefit to the financial institution (and consequently, the total customer detriment) can be substantial. For example, in the case of the LIBOR scandal, a small manipulation in the rate may have a significant benefit for the bank, whilst the costs are spread amongst a large number of consumers or counterparties.

161. In addition, the recent experiences with the bank charges and PPI cases demonstrate that the Financial Ombudsman in and of itself is not a sufficient deterrent to poor standards.
Section 4: Recommendations for reform of the structure, regulation, culture and corporate governance of the UK banking sector

Question 5: What can and should be done to address any weaknesses identified? To what extent are such weaknesses subject to remedial corporate, regulatory or legislative action, domestically or internationally?

Question 6: Are the changes already proposed by (a) the Government, (b) regulators and (c) the industry sufficient? Respondents may wish to refer to the Financial Services Bill and the Government's proposals for the Banking Reform Bill. They may also wish to refer to proposals by the Bank of England and the Financial Services Authority on how the Financial Policy Committee, Prudential Regulation Authority and Financial Conduct Authority will operate in practice.

Question 7: What other matters should the Commission take into account?

162. The financial crisis has had a devastating impact on consumers and damaged their trust in a sector which is vital to economic prosperity. It also exposed the fact that even before the financial crisis many aspects of the banking market were not working in the best interests of consumers or society as a whole. Simply, putting more capital into the banks and returning to ‘business as usual’ is not enough. Restoring trust by improving the level of professional standards in the banking sector will require significant reform to the structure, regulation and culture of the banking sector.

Reforms to banking structure

163. Which? agrees that structural reform is necessary to remove the conflicts of interest within large banking groups and deal with the problem of banks which are too big to fail. We need to reintroduce market discipline by reducing the scope of Government guarantees and subsidies for banks with low levels of banking standards. We recommend the following reforms:

Ring-fencing of essential retail banking services

164. To ensure that banks with low levels of banking standards can fail, it is essential to fully implement the proposals to ring-fence essential retail banking services. The paramount importance of protecting retail deposits and the payment system means that to some extent the taxpayer will always need to stand behind the banking system. However, it is important that this is not a blank cheque and reform should ensure that the taxpayer no longer provides an open-ended subsidy to banks with low levels of professional standards. Reform must include requiring the ring-fenced bank to have its own balance sheet, liquidity and funding mechanism and to be operationally independent of the wider banking group.

165. We want to see full and robust implementation of the Vickers ring-fencing proposals to make sure that if poorly run banks fail it doesn’t have a damaging effect on their customers or the economy. Ring-fencing is required to limit the scope of Government guarantees and to tackle the conflicts of interest which exist in large complex banking groups. It will reduce moral hazard and help impose a credible threat of failure on parts of the bank outside the ring-fence – reducing the extent of taxpayer subsidies for low levels of banking standards. The Vickers proposals should also limit the spread of a damaging investment banking culture to the retail bank, by ensuring an independent board, independent chairs of the audit, risk and remuneration committees and prohibiting the sale of complex derivatives and structured products designed by the associated investment bank.

166. The Government is committed to introducing ring-fencing as part of the Banking Reform Bill. However, the nature of the legislation is likely to be extremely broad – leaving the risk that the lobbying power of the major banks may seek to water it down as it is implemented.

Depositor preference and a clearly understandable deposit protection scheme

167. Reform is required to bank insolvency procedures so that depositors become a higher ranked creditor than bondholders. This will help protect the deposits of retail customers whilst ensuring that those who lend to banks through the wholesale markets have stronger incentives to monitor and constrain the behaviour of banks with low professional standards.

Improvements to competition and regulation

168. More competition is essential to ensure that banks which have low levels of professional standards are subject to market discipline. Regulators need to do more to promote effective competition and take strong and robust action against any bank with low levels of professional standards.

Refer the banks to the Competition Commission

169. Government subsidies and bail-outs have increased concentration in the market and entrenched the power of the largest banking groups. This is not a healthy position for consumers and a lack of effective competition risks blunting the drive to raise professional standards. Even after the required divestments, the largest banks will still enjoy a dominant position and major retail banking markets will be more concentrated than at the time of the Cruickshank Report. The Competition Commission is the only body with the power to restructure major banking groups.

Easier switching for consumers

170. Measures should be taken to make it easier for consumers to switch. This will help encourage new entrants who may take greater care to uphold high levels of professional standards. Portable bank account numbers should be introduced to make it easier for people to switch banks and they should be able to download their usage data to enable them to make one-click comparisons of current accounts

Give consumer protection and prudential regulators a clear mandate to promote effective competition:

171. Which? wants both the incoming conduct and prudential regulators to be given an objective to promote effective competition for consumers. Under existing plans, only the conduct regulator, the FCA, has a competition objective. We are extremely supportive of the FCA’s competition objective. It will help it take steps to ensure that the characteristics and price of financial products are transparent and easily comparable. We also expect it to be better placed to prevent mis-selling by controlling products and product features, rather than relying on disclosure of information to consumers in long and complex documents. The FCA would also be required to take much stronger action to reduce the barriers to switching faced by consumers.

172. We also want the prudential regulator to have a competition mandate. At present, the PRA has no such mandate in its objectives. This is despite the recommendations of the Joint Committee on the draft Financial Services Bill:

"Competition within the financial sector is an important part of developing a stronger, more diverse system. The actions of the PRA have the potential to affect the costs of individual firms or of particular types of institution, and affect the barriers to entry and expansion in the market. While the need to protect and promote competition in the sector should not dictate the actions of the PRA, nor detract from the clear role of the OFT in this area, we believe it is a factor that ought to be considered in the course of PRA decision making."

173. Giving the PRA a clear mandate to promote effective competition would ensure that it tackled ‘barriers to exit’ and enable market discipline to operate (whilst ensuring the continuation of vital economic functions and the protection of retail consumers). The prudential regulator could also take pre-emptive steps to ensure that resolution arrangements involved the continuity of all essential retail banking services and covered how consumers were going to be treated during the process. The prudential regulator would also have a key role in limiting the impact of the implicit government subsidy.

174. Finally, the PRA will have responsibility for issuing banking licenses. Without a statutory obligation to consider competition, the PRA will not have an incentive to encourage new entrants to the market or reduce significant barriers to entry for new players. Challenger banks can invigorate the market and force existing players to compete for custom by introducing new products and services. This should create a more dynamic market in which good firms will grow.

FCA should be strong, open and proactive consumer protection regulator

175. The new Financial Conduct Authority must be a strong, open and proactive regulator. This means taking early action to tackle action to tackle low levels of professional standards, holding individuals and banks to account for poor practice and using transparency to shine a light on the performance of individual banks.

Higher fines

176. The regulator needs to have the power to levy higher fines so that they can act as real deterrents. Which? has been highly supportive of the FSA’s move over the past two years towards significantly higher penalties. However, there is still recent evidence that the level of fines levied by the FSA, and the way in which fines are calculated, is unsatisfactory. In the recent Libor rigging scandal Barclays was fined £59.5m by the FSA. However, US regulators the US Commodity Futures Trading Commission and the US Department of Justice fined Barclays £230.5m for the same offences. It also appears that there could be greater transparency around how the FSA calculates the level of fines. Following the Barclays fine a source within the FSA admitted that the approach to coming up with fines was ‘opaque’ and that the figure was simple a ‘judgement call’ by one of the regulators [13] . This is not an appropriate way for the regulator to be determining the levels of fines. There are domestic legislative changes that could be made to improve this. The Financial Services Bill, currently in the House of Lords, could be amended to provide greater transparency around fines and give the new regulators, the PRA and FCA, clear instructions to levy higher fines.

Senior Management accountability

177. A lack of direct senior management accountability inside firms for specific areas of conduct is damaging to banking standards and can lead to problems for consumers. A lack of personal responsibility can entrench the box ticking approach to regulation. Assigning accountability to individuals for specific areas of conduct, for example complaints handling, can help to bring focus and attention to these areas. Which? think that the attention paid to complaints handling has increased significantly in the past few years thanks to this initiative. We would like to see corporate or regulatory changes made so that this approach was adopted for areas such as sales incentives for front-line staff or remuneration of senior members of staff and directors.

Unfair charges

178. The regulator should be given a clear power to consider issues of ‘value for money’ and price when looking at hidden and rip-off charges. At present the regulator does not have such a clearly stated power. The Government has stated that it wants the new consumer regulator, the FCA, to intervene on matters of price and value for money, yet does not use those terms when setting the FCA’s objectives in the Financial Services Bill. The failure to explicitly reference value for money could lead to regulator that is reluctant to take action in this area for fear of legal challenge from the industry. Recent history has shown us that where any possible Legal ambiguity exists the industry will challenge the right of the regulator to act. Bank charges and the PPI judicial review are the two most recent examples of this. legal challenges are also costly to the regulator. The OFT's legal costs when the industry challenged its right to judge the fairness of bank charges was £1million. The FSA ran up £900,000 worth of legal fees when the industry asked for a judicial review into the FSA's judgement on industry's handling of PPI complaints. This legislative change would help to improve the culture in the regulator and make it more likely to act in the interests of consumers.

Improved regulatory transparency

179. At present the regulator is prevented from sharing information it has received in the course of its regulatory activities. Section 348 of FSMA prevents the FSA from disclosing information it receives in the discharge of its regulatory duties, except in certain defined circumstances. A breach of section 348 incurs a maximum penalty of two years in prison. Section 348 acts as a catch-all to prevent the publication of information that is in the public interest and the use of transparency as a regulatory tool. Inevitably, the comprehensive nature of section 348 has led the regulator to be particularly cautious with regard to the transparent use of information. We note that the way the regulator currently interprets section 348, forbids it from even revealing what instructions it has given to firms. The Treasury has now instructed the FSA to review transparency and accountability and the FSA is preparing a discussion paper on this issue. It is vital that the findings of this discussion paper are taken forward so that the regulator is able to use transparency as a regulatory tool that can encourage better standards in the banking industry.

Strengthening of collective redress powers

180. Which? believes that the implementation of an effective collective redress regime would plug an important gap in the current legal regime and provide a significant incentive for businesses to raise standards. Currently there is no general collective redress mechanism and primary legislation would be needed to change the status quo. Which? believes such a system should be based around three core principles:

a Only designated bodies should be able to bring a case. In order to avoid the development of American-style ‘class actions’, representative bodies should be limited to designated bodies that satisfy certain criteria. Legal firms should be excluded so as to avoid there being a vested interest in the cases being brought before a court.

b The system must be ‘opt out’. This will ensure any designated bodies can take effective action for all consumers who have suffered loss (as opposed to only those who sign up in advance to the claim – this is known as an ‘opt-in’ system) and are able to extract more, if not all, of the unlawful gains made by the miscreant firm or industry. It will also act as more meaningful deterrent to other potential transgressors.

c The system must include a 'cy pres' distribution of damages. ‘Cy pres’ means that any money left over from damages paid out to eligible consumers can be used in a way specifically related to the claim, for example to fund financial education or some other specific consumer-based project, rather than returned to the defendant.

Reforms to culture and corporate governance

181. The structure of the banking system can provide the right environment for a positive culture and can prevent some of the perverse incentives. Responsibility for doing this should be shared between the regulators and the firms themselves. Whilst the regulatory regime can prevent the worst excesses, it can often do little to prevent some of the more damaging actions which have not yet been thought of. Regulators cannot be everywhere at once and must avoid encouraging an attitude in the banking sector that unless an action is specifically prohibited then it is acceptable.

182. Financial services firms should seek to create a culture that focuses on the long-term creation of value for shareholders that is achieved by putting the customers at the heart of their business. There needs to be a significant change of corporate culture which moves away from a legalistic interpretation of whether a course of action complies with the rules and towards an ethical approach which asks whether it is the right thing to do and meets the needs of their customers and society. No amount of detailed rules will be effective if it just results in a process of banks looking for elaborate ways around them. Making this work will also depend on the industry taking its share of the responsibility for ensuring that high standards of professionalism and ethical behaviour are met.

Code of Practice – A Good Financial Practice Code

183. There is an urgent need for a redefinition of acceptable practice in banking that we believe should be based on a new Good Financial Practice Code. This code should have similar status amongst the banking profession as codes of conduct have in the medical and other professions. This code should lay out the standards by which bankers are expected to operate. It should cover the duty of care they owe to their customers, the behaviours and independence of view that are regarded as essential to a well-functioning profession, and the responsibilities they have to draw the attention of their own profession and regulators to behaviour that contravenes these standards.

184. The FSA already carries out a ‘fit and proper’ test for approved persons, which makes an assessment of probity and competency. However, the proposed new Code should go further than this; it should apply to many more employees and the standards should go beyond probity and competency to incorporate wider cultural dimensions. Adopting some of the core principles from the codes and charters which govern the medical and legal professions, such as honesty, integrity and client interest, would be an important step in achieving the necessary cultural change within the banking sector.

Professional Standards Body

185. This Code should be enforced by a new professional standards body that should operate in a similar way to organisations such as the General Medical Council and the Legal Services Board that enforce Codes of Practice for other professions such as medicine or the law. This body should operate with high standards of corporate governance - this means it should be independent of both government and the industry, and should have a lay majority on its board.

Embedding and enforcing professional standards

186. As we have seen from the way in which codes were ignored by staff, statements of intent are not by themselves enough. Senior management must practice what they preach and ensure that all staff understand and meet their obligations. Individual banks should take more responsibility for bankers meet these higher professional standards. This should include an annual report describing how the Code has been implemented, any concerns which have been raised internally and what action has been taken. This report should be include a personal signed statement from the chief executive and independently audited and verified.

187. In terms of enforcement, there should be stiff penalties for those that transgress the expected standards, including the possibility of being ‘struck off’ by the new professional standards body for severe breaches. Firms themselves must also take more responsibility for raising standards within their own organisations.

188. Where there is evidence of mis-selling or poor conduct this should be dealt with promptly and effectively. In particular, this means that Non-Executive Directors should be doing more to measure the culture and customer experience in their businesses and holding the executives to account for this performance. They should make greater use of their powers to appoint independent advisers to assess risk and to measure customer experience through commissioning their own research.

189. In the case of the publically owned banks, it will be important that UKFI play a more active role than they have to date to help ensure that these banks set an example to the rest of the industry. UKFI should be actively involved in promoting best practice and should work with other shareholders to ensure the system of banking into which the public shareholding is sold, is one which is sustainable, for long-term shareholders, customers and creditors.

190. The regulators will also need to play their part in ensuring that the ‘fit and proper’ person test for senior executives is adhered to and that any concerns with the culture of individual banks are addressed. As a backstop to this new approach, it will be important to ensure that criminal sanctions for mis-conduct are clarified and strengthened where appropriate.


191. To support the proposed new Code of Practice, there should be a renewed focus on training before people are able to fully practice in their profession. This should include training in the ethical behaviour expected of the members of their profession, including how to resolve conflicts of interest. An understanding of, and commitment to, the high professional standards in the Good Financial Practice Code should be a compulsory and significant part of such training.

Remuneration and incentives

192. Remuneration practices are a key driver of behaviour and in need of reform. Remuneration incentives in many banks have focussed too heavily on sales and led to a culture that excessively rewards sales at the expense of client interests. Remuneration incentive schemes at all levels of the bank, from the chief executive to the frontline staff should be reformed to prioritise meeting the needs of customers over simply making sales. This means that discretionary rewards should be focussed on measures such as fair treatment of customers, customer satisfaction and the fair resolution of complaints.

193. A specific executive should be responsible for signing off incentive schemes for frontline staff and have enforcement action taken against them if the bonus scheme promotes mis-selling by putting excessive pressure on front-line staff. By the same token, where a mis-selling issue comes to light after the event bonuses should be clawed back. In too many cases it seems as though firms are unwilling or unable to clawback bonuses from senior executives.

24 August 2012

[1] The full report is available at b anking-commission-report-276591.pdf

[2] For example, see the comments in the HBOS FSA final notice

[3] 4,365 GB adults who have a personal current account, July 2011

[4] Harison and another and Black Horse, 2010 EWHC 3152 (QB) , Case No: A3/2010/2996

[5] Future of Banking Commission report, page 55


[7] Future of Banking Commission, page 19

[8] Barclays Code of Conduct, page 2,

[9] See FSA Final Notice, HBOS,

[10] Letter from Lord Turner to Marcus Agius, 10 th April 2012

[11] Future of Banking commission, page 59

[12] Future of Banking Commission, page 76

[13] Post financial crisis these numbers include Lloyds Banking Group, RBS group, HSBC, Santander and Barclays; Pre-financial crisis these numbers include Lloyds TSB, RBS group, HSBC, Abbey and Barclays. Mortgage gross lending figures are for 2006 & 2011. Current Account market share are for June 2007 & April 2011. Savings Account figures are for Oct 2006 and Feb 2010 and are by number of customers. Sources: Mintel & Council of Mortgage Lenders

[14] ICB Interim report, pages 28 & 120

[15] Future of Banking Commission, page 66

[1] FSA enforcement notices demonstrate that remuneration policies are often one of the causes of mis-selling ht t p:// / final/alliance_leicester.pdf


[3] FSA, Bank of Scotland, Final notice,

[1] l /alliance_leicester.pdf


[3] FSA enforcement notice Sep 2003


[5] FSA, PPI thematic work, page 20,

[6] FSA, Interest rate hedging products , Information about our work and findings, page 1






[12] OFT, An assessment of discretionary penalties regimes, October 2009


[1] Populus, on behalf of Which?, interviewed 2000 GB adults online between 3 rd and 5 th August 2012 . Data were weighted to be demographically representative of all GB adults. Q1. “Since the start of the credit crunch, do you think each of the following has got better, worse or stayed the same? - The behaviour of UK banks”

[2] Poll of 2000 GB adults online, 3 rd -5 th August 2012 . Q2. Overall, do you think banks, the government and the regulator (the Financial Services Authority) have done enough to change the banking industry to ensure another credit card does not happen again, or not?

[3] TNS, on behalf of Which?, interviewed 1299 GB adults online between 6 th and 8 th September 2011 . Data were weighted to be demographically representative of all GB adults. Q2. Overall, do you think banks, the government and the regulator (the Financial Services Authority) have done enough to change the banking industry to ensure another credit card does not happen again, or not?

[4] 76% think that the FSA has not done enough to change the banking industry to ensure another credit crunch does not happen again (up from 69% in Sept 2011) Similarly, 75% of people think that the government has not done enough (up from 71% in Sept 2011)

[5] Poll of 2000 GB adults online, 3 rd -5 th August 2012 . Q3. The Government has recently announced an inquiry into the standards and behaviour of banks. How strongly do you agree or disagree with each of the following statements? The banking culture hasn’t got any better since the start of the credit crunch.

[6] Poll of 2000 GB adults online, 3 rd -5 th August 2012 . Q3. The Government has recently announced an inquiry into the standards and behaviour of banks. How strongly do you agree or disagree with each of the following statements? There is a deeper problem with the culture in banks than just a few individuals making bad decisions

[7] YouGov, on behalf of Which?, interviewed 1035 GB adults online between 28 th and 29 th June 2012 . Data were weighted to be representative of all GB adults. To what extent do you agree or disagree with the following statements about UK banks? - Where the law is broken by a bank, the individual(s) involved should be personally prosecuted

[8] Poll of 1035 GB adults online, 28 th -29 th June 2012 . The Government, with advice from other bodies, is reviewing how to reform the banks to promote financial stability and competition between banks. The reforms are intended to reduce the chances of the credit crunch happening again and limit the chances of taxpayers being asked to bail-out the banks. To what extent, if at all, are you confident that the government will act in consumer’s best interests when implementing banking reform?

[9] The British Social Attitudes survey is an annual survey, running since 1983, is conducted by NatCen Social Research. It monitors the British public's attitudes towards social, economic, political and moral issues. The survey involves over 3,000 face to face interviews with a representative survey of the British population annually.

[10] Populus, on behalf of Which?, interviewed 2060 GB adults online between 17 th and 19 th August 2012 . Data were weighted to be demographically representative of all GB adults.

[11] Q1. To what extent do you trust or not trust each of the following professions to act in your best interest? 2060 GB adults, 17th-19th August 2012

[12] Q2. Which of the following words or phrases, if any, do you associate with the professions listed below? 2060 GB adults, 17th-19th August 2012

[13] Q3. How likely or unlikely do you think it is that people in each of the professions below would be removed from their jobs if they ? 2060 GB adults, 17th-19th August 2012

[14] The Which? Quarterly Consumer Report includes a poll, conducted by Populus, of 2006 GB adults conducted online between 8 th and 10 th June 2012 . Data were weighted to be demographically representative of all GB adults.

[15] 2006 GB adults, 8th – 10th June 2012.

Prepared 22nd September 2012