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Protecting the profit margins

Posted by on in From My Window
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Confused by the claims and counter-arguments over our banks and their need, or desire, to raise their interest rates?

Fear not, dear reader, for you are not alone. If ever there was a fit for that old adage ''lies, damned lies and statistics'', the argument over our banks fits the bill.

Once again, the big four are pulling out the big guns to soften up the market before the Reserve Bank's monthly meeting next Tuesday.

After the unseemly delay in passing on the 0.25 percentage point cut last month, it is clear the banks are determined for a showdown this time around, regardless of whether or not the Reserve Bank of Australia cuts official interest rates.

For despite all their protestations, and their claims of the rising cost of funds, the simple fact is that our banks are in rude good health and are more concerned about protecting record profits than they are about ensuring their survival.

Don't take my word for it. If you require any proof, then simply log on to the Reserve Bank website, head to the page that says ''Chart Pack'' and then scroll down to the page that says ''Bank Funding''.*

What unfolds on the single graph on that page totally undermines the argument from the banks that they are in desperate need to jack up rates.

The story to be garnered from that graph is that our banks are in a far superior position than during the first round of the financial crisis in 2008.

It is a story of how they have evolved to insulate themselves, or at least minimise the impact, from a repeat performance of those dark days should the crisis in Europe escalate and credit markets again seize up.

Remember, too, that since 2008, our banks have added the equivalent of five official rate rises either by not passing on cuts or by increasing rates beyond official rate rises.

First, a bit of background. There is no disputing that the cost of raising money from offshore markets has risen as the European debt crisis has deepened.

But here is what the banks are not telling you. They don't rely on offshore markets to anywhere near the extent they did back in 2007. They are more geared now to domestic markets and to longer-term debt, making them less susceptible to sudden movements on wholesale funding markets.

What caught them out back then was short-term foreign debt, a type of financing from which they have since aggressively switched away. Banking is an inherently risky business. Banks borrow cash on a short-term basis - between one and five years - and then lend it to retail customers and businesses for periods of up to 25 or even 30 years.

That disconnect creates the risk, placing them at the whims of global financial markets.

Before deregulation in 1983, our banks relied almost exclusively on domestic deposits. They merely lent the money Australians gave them to other Australians.

In the late 1980s, however, they took a quantum leap in the risk department when they began accessing cheap offshore finance, which they pumped into mortgage lending, fuelling a decades-long real-estate boom. Smaller banks and non-bank financiers jumped on the bandwagon.

That all ground to a halt in 2008 when those offshore markets froze, crippling non-bank lenders such as Rams and allowing the big four to gobble up the opposition.

Right now, the big four are preying on the fears of another meltdown in global finance, arguing the case they should raise rates once again to ''protect their margins''.

Even if you put aside the obvious - that profits from the big four banks have soared in the past three years - that Reserve Bank graph tells you all you need to know about just how much our banks have ring-fenced themselves from a potential global catastrophe.

Our banks no longer rely on offshore markets to the same extent. More than half their funds come from domestic retail deposits, up from less than 40 per cent in 2007.

The amount of cash they borrow short-term also has slumped from about 32 per cent in 2007 to under 20 per cent now. Longer-term debt has risen markedly during that time.

The data for that Reserve Bank graph is now more than a month old. In the past few weeks, the Commonwealth Bank and Westpac have tapped domestic investors for more than $6.5 billion in longer-term funding, tipping the balance even further in the banks' favour. Mind you, those raisings were expensive. But the amount they raised was a drop in the ocean to the more than $1000 billion they have outstanding.

To argue they need to charge all their new and existing customers more on total loans because they had to pay more for a fraction of their new funding costs is more than a little rich. It's downright insulting.

Bear in mind, too, that it only takes a bank two years to recoup administrative and marketing costs on new loans. After that, there is no work, just profit.

But if mortgage holders have felt ruffled by the recent behaviour of our banks, spare a thought for the treatment meted out to small and medium-size businesses. Slugged far harder than homeowners, they don't have the political clout of the mortgage belt and don't grab the headlines, despite the important role they play in employment.

If you read between the lines - in reports published by the banks and in the business press - you'll get a better idea of the real reasons behind the latest push to plump up the margins between borrowing and lending rates. Rather than worrying about borrowing costs, it is the simple fact there is less demand for loans. Australian consumers and corporates are borrowing less and saving more.

That may be cause for applause from those looking at the economic big picture. But for a bank, in the business of lending money, it is a red flag, the kind of trend that could threaten another year of record profits. The easy solution? Widen the profit margin.


32 comments so far

  • The banks were more than eager to raise up the interest rates when the RBA did it.

  • This is all just short term noise. The banks are sitting on billions of dollars of junk mortgages, taken on during decades of easy credit. This whole ponzi finance era is coming to an end starting in Europe.

    Harry B
  • Bring back bank regulation. Nothing else will stop these robber barons from exploiting Australians at every opportunity.
    The notion that a free-for-all finance market is self-regulating is at the root of the GFC and the current financial troubles.
    Australian banks have NEVER been as profitable, any claim that they "are in trouble" is a simple, unadulterated, clear, LIE!

    • Noons, couldn't agree less.

      Less regulation and more competition is the answer. The banks are a protected species due to government regulation. Why would anyone want more of that ? Open up the market so that anyone can offer mortgages and watch this ridiculous thing we have in Australia ..(the variable mortgage rate) be done away with.

      Fixed rate mortgages, variable rates set off official interest rates, competition and choice is the answer. Not more regulation.

    • Yes @rossco, I agree - who needs regulation and piddly thing like minimum capital requirements and oversight.

      Banks should be able to be setup by anyone with no intervention by evil big government.

      This will attract the type of people synonomous with the stability and integrity of a free market. Eg: Madoff, Bond, Skase, Williams, Cooper, Adler etc.

      Private ratings agencies continue to provide the valuable service and guidance towards investors, and have demonstrated how incorruptable they are when handing out AAA ratings to all and sundry.

      Corruption is hardly a possibility, history shows people are just spontaneously honest - especially those who run large businesses.

      And if investors do get ripped off, well they are just suckers aren't they. They should be more careful next time not to believe what so-called professional institutions tell them.

      In this case they should have simply started their own international credit-checking agency before investing any money anywhere. All will then be in utopia.

      All hail Ron Paul and his brand of hippie anarcho-conservatism. Liberty good, regulation baaaad!

    • Hey rossco, wasn't it LESS (if not NO) regulation on banks that got us all into this 4 year mess?

    • Less regulation will lead to what happened in the US with Sub-prime. Reckless lending in speculative boom times occur due to competition to entice as many customers into debt as possible with teaser rates.

      Debt is dangerous when financing speculation, LVRs and amounts of debt (whether capital ratios or some other measure) are what is needed in the industry.

      Won't happen though unless it spectacularly fails at some point

  • Australian Banks, poor things, they just understand why they are so unpopular.

  • It is too easy for the banks to play around with cuts or rises in interest rates from the RBA and to manipulate them to their advantage by not passing on the full cut. It should be legislated that these changes should be automatically passed on IN FULL to their customers within 24 hours and then if they wish to increase or decrease their margins they would be required to do so as a seperate motion. There could even be a ban on any interest rate movements by the banks for 2 days on either side of any RBA announcement. This would create truer competition by limiting 'signalling' such as that being done by the NAB currently.

  • With the amount of new money being 'created' by central banks around the Globe, it really does strike as odd that interbank funding costs are increasing. Surely the more you devalue money (by printing more and more with scant regard to retaining value) the cheaper it becomes.

    Anyway the NAB is all about doing the easy stuff like screwing over its customers to maintain its profit rather than working ever harder/cleverer to maintain profit. They also have a whole herd of managers who run around keeping each other 'important' whilst individually contributing nothing to the business. Only 2 years ago, a section head and 1 team leader was replaced under a new 'model' by 1 section head, 3 functional managers, and a group of about 8 team leaders. Now that's the kind of efficiency that makes maintaining profit difficult and hence, bleed the customer further.

  • There is only one way, it seems, to stop this anxiety foisted on the borrower time after time, caused by the banks, and that is to legislate. The govt. has the power, right? but looking at history, not the guts.

  • Why are all sides of politics so spineless when it comes to banks false claims of poor?

  • From today's The Age "RATINGS agency Fitch has warned it could cut the AA credit rating of Australia's big banks largely as a result of their heavy reliance on overseas borrowing to help fund their lending books."

    Read more:

  • And this makes them different from all the other gougers in Australia from Federal government to down to corner stores in what way?

  • These 'too big to fail' corporations receive (directly or indirectly) backing from public funds. It is only fair to require them to be exposed to more public scrutiny - the likes of FOI.

  • It's simple - it's not cost of funds and there is no funding crisis - it's simply cost of profits - according to the banks it must cost the public more - to ensure that they, the banks maintain and increase their spectacular profit margins this year - which explains them trying to break the perception that they have to move with the RBA - they want the 'freedom' to change interest rates - at any time - to maximise their profits to the highest extend, to the clear benefit to the bank executives and shareholders – everybody else loses, not so?

    its time to consider alternatives, unless we want to keep on 'funding' spectacular profits and executive bonuses.

    Keep it simple
  • Hears a good idea how about we sell the bank the government owns and deregulate the rest its only in the the peoples interest.... thanks for that by the way whats the interest rates in Europe

  • It's time for the government to give these banks and their executives a lesson (a sledge-hammer preferably) on being part of a society (from which they derive their obscene profits) which has had austerity foisted upon them by the banks' risky actions in general.

    Lying to the Australian public about their "cost of funds" (in order to maintain/improve their personal bonuses) won't cut it anymore.

    The lesson needs to be strong enough for the current banking cabal in place and their aspiring successors to remember acutely ...... for a long time.

  • they're not charities, if you're not happy go somewhere else. or better yet move to europe

  • The banks act as if it is their God given right to make profit rain, hail or shine.

    It is the customers who are forced to bear the brunt of the bank's gravity defying growth.

    The only way forward is to massively increase the amount of competition in the market and severely restrict the big four bank's ability to absorb the small players.

  • There is absolutely no sensible reason why variable mortgage rates should move one-for-one with the cash rate. The cash rate affects 30, 90 and 180 day bank bill rates, and currently this type of short-term loan book financing constitutes around 20% of total bank funding, the remainder financed through customer deposits and long term debt (bonds), the rates on which move largely independently of the cash rate.
    Thus it is long overdue that our banks move away from one-for-one moves with the cash rate.
    I also always have a good laugh at the fools who claim that our banks are ripping us off and making too much profit. Too much profit? Where is you evidence? Please don't point to absolute profit numbers as anyone with a rudimentary understanding of finance will tell you such an approach is meaningless. At the very least you must compare Australian banks' ROE with those of other blue-chip Australian companies (WOW is twice as profitable!) or international banks.

  • I really do hope Japanese lenders hit the Aussie market. I am first in queue. What business in Australia is gauranteed quarterly record profit increases? Banks. Why? Because they are the only "industry" that is profitting from a monopoly of price fixing. We have no competition here.

  • It's time for the government to setup another government owned bank and this time not sell it off. If their margin is large enough to only keep it going, I'd move to it. The RBA will reinvigorate one of it's levers as currently the banks seem to be the ones trying to control the economy.

  • It is a case of pure unadulterated greed... The big four continue to live of the Aussies backs but send jobs off shore to make more profits "because the wages in Australia are too high"... and why are they too high? Because the banks continue to place upward pressure on the cost of living... the economy has fundamentally changed ... Now the robbers sit behind the top desks at the banks... they no longer have a social conscience..

  • Rates are too low. Raise them... a lot. It is well and truly time for savers to earn a decent return on their funds and for the over-leveraged to sleep in the bed they've made.

  • blah blah blah- more bank bashing from the uneducated!!

    If you weren't mortgaged up to the hilt living in an oversized house, enjoy o/s trips, own 2 cars, have your kids hooked up with iPhones, iPods, playstations etc etc then Aussie banks would have domestically sourced money to lend...

    Alas Australian live high on the hog so there isn't enough money in Aussie banks to lend to people and satisfy their every consumption desire. So they need to head off shore to raise funds. Doing this comes at a cost because (if you haven't noticed) the world has gone to [email protected]!!! Those that have money to lend us now do so at higher rates because there is such demand!

    As 'William' posted re: Fitch - if our credit rating drops the cost of funds will go up even more!! The RBA is not an ATM the banks can go to for cash. Banks don't buy money from the RBA at 4.25%! If they pay people 5- 6.00% on some TD's how do you expect to borrow money cheaper?

    yes i do work in the finance industry and yes i do have a mortgage and no i don't get cheap rates!

    btw - bank return on equity isn't all that great and you all own bank shars in your super funds so by all means make sure they make low returns.

  • The banks are businesses and have a right to protect their profits. Their aim is to maintain or increase their stock price and return dividens to shareholders.

    This country has many well run mutual societies and credit unions who offer the same lending products for householders that banks do.

    These mutual societies and credit unions operate for the benefit of their members, the same as a bank operates for the benefit of their shareholders. This is why you will find interest rates and fees across the products offered by these non bank lenders are generally lower.

    This has been stated many time in these types of forums. People do have a choice, if you stay with a bank don't complain about paying a higher interest rate.

  • Hi Ian,

    Unfortunately, your analysis makes a substantial (and unstated) assumption that fundamentally changes the outcome. You have (accurately) interpreted from the RBA chart that the proportion of bank balance sheets funded by domestic deposits has increased since 2007. However, you have made the assumption (implied but not stated) that the cost of these domestic deposits has not changed over the same period. The reality is that the rates paid by banks for deposits are substantially higher (relative to the cash rate or fixed wholesale rate for term deposits) than they were several years ago, and are continuing to increase. Deposit competition (currently very high) is a major factor in bank funding costs; It substantially benefits depositors, both individuals and businesses, but increases pressure on funding costs.

    You have pointed to a single RBA chart as proving an argument when it is actually your own unfounded assumptions beyond the information in this chart that have led you to your conclusion.

    There are several (more valid and informed) arguments to be had regarding the banking industry; however disputing that funding costs are increasing without any attempt to analyse more deeply than a simple chart hurts both your credibility as a financial journalist and that of The Age.

  • Let's see; who owns banks?... How's your super looking?

  • Maybe this is the time more banks are formed (when borrowers move from banks to smaller financial lenders). I am sure if Australia have more than 6 major banks, there will be way more competition.
    But I am sure bank executives do not care because their bonus depends on their current performance, even if it means it will harm the banks in the long run.

  • Why not just point to the RBA chart labelled Major Banks net interest margin. This shows the Net Income from each dollar lent out (before paying for the cost of running a branch network, etc.) is trending slightly up but is lower than both pre-GFC and a year ago.

    If you compare the Net Interest Margin (NIM) of retail divisions (mortgages, etc) against NIM of business divisions from bank reporting packs you will see that in fact retail NIM is actually declining and it is businesses that are footing the bill.

    There seems to be a lot of talk about bank greed but not a lot of personal reflection on the greed of individuals. A me-me-me culture where people think the world owes them something for nothing.

    Ian, you should know better. You must be chasing a job at the Herald Sun with sensationalist articles like this.

  • An advice to the savers out there. If you have more than $250k in a bank account, spread it around different banks, so you don't hold more than $250k in each bank. It may get handy when the proverbial hits the fan.

    As for establishing a government owned bank, just give Australia Post a full banking licence. They already have a banker for CEO.

    Paul R


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  • doyla66
    doyla66 Friday, 16 November 2012

    Great debate on banks' profit margins.
    I remember some pollie saying earlier in the year that the RBA rate had to change because ANZ's margins were hurting ... then this was denied as influencing RBA rates ... then it was proven true. Transparency anyone?

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