An official inquiry has found that a lack of competition is one reason why banks haven’t passed on lower interest rates

Peter Parks/AFP/Getty Images

The Productivity Commission’s investigation into Australia’s financial system has found a lack of competition on home loans and for finance to small to medium enterprises.

Australia’s financial system is dominated by large players: four major banks, four major insurers, and some of these same institutions feature prominently in funds and wealth management.

“The early 2000s was the last time Australia’s financial system saw a period of fierce competition,” says Peter Harris, chairman of the Productivity Commission, releasing the draft report.

“If we are to see its like again, we will need a series of policy shifts, and a champion to own them.”

In home loan finance, the report finds that the widespread use of published loan benchmarks that do not reflect actual practice, accompanied by the lack of a legal duty of care by mortgage brokers, means consumers can be left unaware of better deals.

Increasingly, a fall in the official cash rate from the Reserve Bank of Australia (RBA) doesn’t mean a subsequent fall in bank interest rates. The cash rate is at a record low 1.5%. The difference between that and home loans rates has been the subject of intense questioning of bank CEOs by a parliamentary inquiry.

“The fall in the cash rate does not appear to have been fully passed on in lower prices across the board,” says the Productivity Commission.

“Instead, the spread between home loans and the cash rate, for example, has largely increased in recent years.”

This chart shows the spread, the increasing difference between RBA rates and market rates:

Source: Productivity Commission

The RBA reports similar increases in interest rate spreads for business lending.

For credit cards, interest rates were estimated by CHOICE to be around 3% points higher than they would be had the reduction in the cash rate in recent years been reflected in credit card interest rates.

The commission says the lack of pass through of cash rate changes to other interest rates reflects the decreasing importance of the cash rate on the cost of funds to institutions.

The Commission noted that competition in Australia’s financial system is without a champion among existing regulators. No-one is tasked with overseeing and promoting competition in the financial system.

“We need one of the regulators to be appointed by government as the competition champion — to take primary responsibility for putting the case for competition inside what are otherwise closed shop discussions,” says Harris.

The Commission found that competition is weakest in markets for small business credit, lenders’ mortgage insurance, consumer credit insurance and pet insurance.

The draft report points to APRA’s 2017 actions to slow growth in interest-only lending on residential property.

This allowed banks to move in concert to increase interest rates on both past and future investor borrowings.

The commission says this collective action allowed profits to increase without risk because alternatives for borrowers were also restricted.

“Ultimately, taxpayers are covering part of the cost of this intervention,” the Commission says. The tax deductibility of additional interest on investment loans is estimated to be up to $500 million a year.