All pluses in banking numbers game

by Michael West | Mar 4, 2013 | Business

The maths don’t seem to add up. The big four banks made a combined pre-tax profit of $22.6 billion in 2008 and $33 billion last year – a 50 per cent increase. Yet their growth has been slow and their internal costs have been going up. And they have refused to pass on the full Reserve Bank cuts in interest rates, claiming the cost of their funding has increased. What’s going on?

During the financial crisis, and for a brief time in late 2011 during the European debt crisis, the banks’ argument had merit. In times of trouble it often becomes more expensive to borrow. But apart from these market ructions, the cost to banks in borrowing a large part of the money they then lend has trended lower since the financial crisis, according to research by Professor Milind Sathye.

On the latest Reserve Bank numbers, deposits represent 54 per cent of total bank funding and wholesale funding makes up 37 per cent.

Banks borrow substantially from investors and other banks around the world to be able to provide loans. Some of the money they borrow is short-term – that is, it is due to be repaid normally within between one and three months. Another portion is borrowed long-term, to be repaid usually between three and five years.

Looking at the long-term debt, the difference between the rate banks pay and the Australian government bond rate has fallen from 2.16 percentage points in June 2008 to 0.92 percentage points last month. In other words, the price for the banks more than halved.

The windfall is even more pronounced in the short-term markets where the difference between the rate the banks pay and the benchmark rate has contracted from 0.43 to 0.07 per cent over the same period, a substantial boost to bank profits.

For the big four banks – bearing in mind that the size of the Commonwealth Bank’s interest-earning loan assets alone is $645 billion – a decline in funding costs of a mere fraction of their funds is substantial, as are the profits to be had by holding back on successive Reserve Bank rate cuts.

“By delinking from RBA cash rate – as they have sought to do – banks are in effect saying that their rates are now linked to international borrowing costs,” Professor Sathye said. “Why did they not bring down lending rates when international borrowing costs declined to less than 10 basis points?

“Banks would like consumers to gloss over the fact that it is the cost of equity, or the return to shareholders, which is the culprit.”

And even more remarkably, during this time internal bank costs have gone up.

The sharp fall in funding costs has once again brought the spectre of competition back to the mortgage markets. Non-bank lenders such as Resimac and Macquarie Bank partner Yellow Brick Road can now begin to access capital more cheaply.

Remember, it was Macquarie that, a decade ago, funded Aussie Home Loans’ John Symond to undercut bank mortgage rates.

May it happen again – because the big four’s share of the mortgage market has risen from 75 per cent to 90 per cent in the past four years.

Michael West established Michael West Media in 2016 to focus on journalism of high public interest, particularly the rising power of corporations over democracy. West was formerly a journalist and editor with Fairfax newspapers, a columnist for News Corp and even, once, a stockbroker.

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