What was the point of the Banking Royal Commission?

Just last week, the Federal Government decided to loosen lending requirements for Australian banks – a move that’s completely at odds with the recommendations of the Commissioner, Kenneth Haynes.  Sure, investors seemed to like the decision, pushing bank stocks higher. But will this all end badly, once again?

On the 1 February, Royal Commissioner Kenneth Haynes issued his delightfully named “Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry” report. This was a result of an approximately 18-month investigation into the practices and workings of the financial sector in Australia including a number of highly publicised public hearings.

The report contained 76 different recommendations which the current government and the opposition publicly said they would implement. The very first recommendation listed is on page 20 of the report and reads:

Capture

The NCCP Act referenced in the recommendation is the National Consumer Credit Protection Act which requires a lender to check how much a potential borrower’s income is and what their expenses are to ensure that the potential borrower’s financial situation enables him/her to pay back the loan without “substantial hardship.” In other words, the lenders must lend in a responsible way and not lend money to people who do not have the financial capacity to take on additional debt.

In the commentary on the report, Mr Haynes also stated:

“My conclusions about issues relating to the NCCP Act can be summed up as ‘apply the law as it stands’.”

The background to this statement is the ASIC vs. Westpac court case where ASIC took Westpac to court for being overly reliant on the HEM benchmark, which is a measure of the “standard” spending levels given a certain level of income, was still ongoing and Mr Haynes did not want to pre-empt any court decision.

Mr Haynes did state in his report:

“If the court processes were to reveal some deficiency in the law’s requirements to make reasonable inquiries about, and verify, the consumer’s financial situation, amending legislation to fill in that gap should be enacted as soon as reasonably practicable.”

That is, Mr Haynes was saying that if ASIC lost its case against Westpac, legislators should consider tightening the obligations of banks, not loosening them.

As you might have read, ASIC did indeed lose its case against Westpac in the Federal Court and announced they would not be appealing to the High Court.

The announcement on Friday last week from the Treasurer Josh Frydenberg is quite remarkable proposing that the NCCP Act should be “simplified” so that ASIC no longer oversees that lenders follow the NCCP Act and instead APRA’s prudential lending rules should be governing. APRA’s lending rules are much less prescriptive than the NCCP Act and in effect releases lenders from making their own inquiries and verification or that borrowers tell them, which is the exact opposite to what Mr. Haynes was recommending.

Now, many people, me included, have sympathy for the concept of personal responsibility and that people should be able to themselves assess how much debt they are willing to take on. There are a few issues with this:

  • If there was one thing that the public hearings of the Royal Commission showed, apart from questionable behaviour from financial institutions, it was that there is a staggering lack of financial literacy in large portions of the Australian public. I would be much more comfortable with a “borrower beware” policy if it could be shown that a large majority of the population in general was financially literate.
  • This is significantly exaggerated by the fact that the large Australian banks have a more or less explicit government guarantee that they would not be allowed to fail and would be bailed out by the government if the proverbial sh*t hits the fan… As the shareholders of government are the citizens, this means that the downside for irresponsible lending by banks eventually is spread amongst in particular all taxpayers and not just impacted people who take on more debt than they can afford. I for one, am therefore in favour of restricting access to debt for people who can probably not afford it as it will eventually become everyone’s problem and not just that of a few…

Even though my general political views lean towards liberal policies and less red-tape in many areas, this is one where I feel strongly that the proposed changes are going in completely the wrong way. As I have written before, there is a generally very low knowledge of how even a simple mortgage functions which does not instil confidence in people’s ability to decide what level and type of debt is suitable for them.

Early in the crisis, the government formed the Manufacturing Taskforce headed by Andrew Liveries to formulate a strategy to kick-start manufacturing in Australia. This task force produced a report that was leaked to the media in late July and seems to contain some reasonable suggestions (it is not yet published by the government). Reducing lending standards for banks is clearly not on that list and shows that the government are instead focused on continuing to blow the real estate bubble instead of trying to come up with any reforms that increases the productivity of the Australian economy. It’s a shame!

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