Banking on charging

Regulators want banks to charge to stop mis-selling but all that does is increase the cost to the punter with no guarantee of protection

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Future non-profit mutuals? Err...
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Simon Miller
On 25 May 2012 15:43

Banks, don’t you just love them? You go along in your lunch hour to find out that it is also their lunch hour so you queue for 45 minutes only to find that the bloke in front of you wants to do an entire year’s banking in one hit.

So you stand there, looking at all the leaflets promising this and that and you think “At least it’s a free service”.

But the illusion of free banking will not be for much longer if Andrew Bailey, Bank of England executive director and chief executive elect of the Prudential Regulatory Authority, has his way.

Bailey has called for regulators to end the 28-year old practice of free banking and said that free banking was a myth that encouraged mis-selling.

Terribly sorry, but what? How on earth does charging customers prevent mis-selling?

First things first – he is right. There is no such thing as free banking. If you go over your overdraft facility you are charged, if you bounce a check you are charged.

You may think “ah but I don’t do any of those things”. OK, so do you have a loan, mortgage or savings account?

A quick look at top savings deals shows a spread of 3 percent to 4 percent – many of the products are also individual savings accounts rather than straight interest accounts.

Now, if you have a loan, again a quick look sees the best rates coming in between 6 percent and 9 percent – that’s the best.  A two-year mortgage deal sees the cheapest between 4 percent and 5.5 percent.

So there is one part of how they make a profit. They take your money and lend it to other customers with a return to the bank at around 2 percent.

In addition, they will take depositors money and invest it or loan it to other banks, and this is the good part. Unlike the poor customer, banks lend to each other at around half the best deal available to a saver. The Libor rate – the rate at which banks lend to each other – is currently standing at 1.01 percent and has hardly shifted all year.*

So, sorry, no such thing as free banking and that’s without other services that banks provide.

However, ending “free banking” ends mis-selling, does it?

Apparently, this free banking distorts the supply of banking services according to Bailey.

He claims that banks may not “properly understand the costs of the products and services they supply”.

I’m sorry, Mr Bailey, but you will have far more serious problems on your hands than just mis-selling if banks cannot understand the costs of services and products. Costs and profit are part and parcel of their life.

Yes, there is a drive for salesmen to sell other products to the customer; hardly any of us can go to the bank without being asked about another product.But, this is not a direct consequence of free banking.

Recent mis-selling scandals on the retail side have mainly been where the salesman neglected to tell the customer vital information such as: an endowment mortgage could come into maturity at the lowest end of the market so you will owe us the entire mortgage. Or, actually you had no need to pay us an extra £50 a month of payment protection insurance because you can get a better policy online from someone else, and so on.

These are the pressures of selling, especially when it comes to payment protection. That extra £50 is very useful to a bank’s investment portfolio however they use it. The odds of having to initiate the protection were traditionally very low and the timescale and investment strategy of the bank would generally mean that the insurance cost would have either been hedged or covered financially.But this would still happen if your bank charged you a £10 a month.

The selling pressure exists in all walks of life, not just in banking and the idea that if we all have to pay for our accounts then mis-selling would stop is so wrong-headed that I am surprised that Bailey isn’t in the European Commission.

The other strand that the authorities are plugging is that charges would increase competition.

How does that work? Do they really think that by charging, people would be more likely to move accounts to a new high street bank? Because that really works with energy providers, doesn’t it?

Ofgem found that four out of five customers stick to their provider even though they could be saving hundreds if not thousands of pounds. Why do politicians and regulators alike believe that this inertia would not be the same for banks?

Banks exist to make money. You may not like it but there you are; go to a credit union or co-operative.

Because they exist to make money, all that charging will do is increase their money, not decrease the sales pressure. The reason why there were mis-selling scandals is because the regulators didn’t do their job of supervising.

As we have seen with the financial crisis, regulators did not do their job and enforce the rules that were in place. They and the politicians wanted this never-ending growth and profit. They are as much to blame for the mis-selling as any salesman or compliance officer.

If regulators want to stop mis-selling for good – trust me, there will be another scandal, charges or no charges - there is only one solution. Stop profit.

To stop mis-selling, the authorities will have to turn all banks into non-profit mutuals where the bottom line is 0.And funnily enough, I cannot see that happening, can you?

*Before anyone starts, there are scale of costs, investment, base rates and other factors that contribute to the level of rates but these examples are used to illustrate how banks make money out of customers

Simon Miller is the Editor of Financial Risks Today. He tweets at @simontm71

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