In The Age of 8 October, Ross Gittens writes that the long run has come home to roost for financial institutions. He also tells us that economists like to use models of the market that don’t necessarily do a very good job of reflecting reality – not perfect competition. (For the non-economists among my readers perfect competition is a highly stylised abstract notion that, in broad terms, there are lots of buyers and lots of sellers and they all have perfect knowledge.) I can’t argue with either of these propositions.The first proposition tells me that the regulation of the financial services sector will get an overhaul. The second tells me that maybe policy makers might want to look a bit more closely at the distance between the perfectly competitive market and some markets – like financial services.

Gittens then goes on to approvingly quote Rod Sims, chair of the ACCC, exhorting consumers to take our (banking) business elsewhere if we’re not satisfied. Hmmmm. I find it hard to believe that Rod Sims has not been paying attention. Just where are the disgruntled banking customers meant to go? Personally, over the years, I’ve been a “full” customer of three of the big four and none of my experiences have been particularly brilliant. But for a variety of reasons I still bank with one of them – but I keep it to a minimum. For special products I go sometimes to smaller players, much to the frustration of my financial planners (who clearly have a preference for fewer rather than more accounts).

Choosing between the majors is really like choosing the lesser of two (or four) evils. Some of the smaller institutions are better at some things than others. Some actually pay discernible interest, have really nailed online banking, give quick and reasonable responses to queries, and some even waive those annoying fees. But they may not offer the full suite of financial products. So the big four are often the recipients of the business of reluctant customers. Couple that with that the absolute nightmare of changing financial institutions if you have a raft of connected activities, like credit cards, which are part of a regular payment process for example, direct deposits like your salary or other money that comes in regularly, setting up all those direct debits (again), it’s a daunting task, and let’s not even venture into home loans or business credit.

My banking needs are modest. But others may need more complex bundles of products, or want simplicity in their financials (or happier financial planners), or may be hesitant to move business to non-deposit-taking institutions. So they stick to the big four which bring with them the ‘benefits’ of such status bestowed on them by government.

For these reasons, many bank customers are pretty rusted on. And it’s not just in this market that this is the norm. If my favourite cafe’s standards fall, my ultimate response would be to find a new favourite. It’s not hard to do. Or if push really came to shove I could possibly switch and not have a coffee at all, or make my own. I don’t really have to engage with this market at all. These markets respond to the “Sims” approach of consumer power. Not surprisingly, they are relatively lightly regulated. Banks, the telcos, utilities etc on the other hand present a whole different dynamic. Sure they are regulated, but here’s the thing, do the regulators and policy makers really understand the markets these firms operate in? Rod Sims’ comment has me wondering.

Ron Ben David, Chair of the Essential Services Commission (Vic), has posited some interesting ideas about these markets – how refreshing to see this coming from a regulator. https://www.esc.vic.gov.au/media-centre/competition-neo-paternalism-and-nonsumer-uprising.

His starting point is to identify markets where we do not really have a choice of whether to participate or not. I imagine it’s possible to live without access to utilities, banking, telecommunications etc, but most of us wouldn’t even consider it. So we are not going to abandon these markets in a hurry. For quite some time, Ron and I used to trade stories about how and why we hadn’t engaged in the retail electricity market too. We did both eventually enter that realm, but it took a lot of goading from each of us! Switching is not an easy task, even though there are now more tools for customers to use they are still only a vague approximation of what the various plans will offer. Our issue was to ask is it worth the effort?

But this is the most we can reasonably do. As I noted above, this is a really fraught option in some markets like banking, but considerably easier in others such as mobile phones. Although even there with number portability, the ability of the average consumer to thoughtfully compare company offerings is probably pretty limited. Ron’s discussion in his paper is about how behaviour in these markets, by both suppliers and customers, is not efficient (in economic terms) current approaches to regulation of these markets need to readdressed. But some of them, like banking, have the double whammy of essential and with very high transactions costs in switching providers.

Add to this the thought that these types of markets are currently operating so as to ensure pretty inefficient outcomes by effectively taxing consumers who don’t shop around and you can see there is a regulatory question to be attended to. The exhortation of simply shop around ignores the inefficiency inherent in the current market operations and passes some reasonably substantial search and transactions costs onto consumers. This won’t solve the issue.

The challenge to regulators then is to work out how to deal with this – or is it enough to hope that the technological solutions that Ron posits as a thought experiment, will actually materialise?

Financial services looks like being the ripe for a regulatory overhaul. Maybe we can expect policy makers to take into consideration this time the truly non-competitive aspects of this market. Next in line I ‘d like to think might be energy – yes the eternal optimist. Getting these markets right would enable us to take up Peter Costello’s challenge (The Age 12 October 2018 – Costello lashes Lib leaders) and give the Treasurer something to talk about if the International Monetary Fund should ever ask us again to share a successful case of reform.

Post script

I wrote this before the announcement on Friday 26 October that the COAG energy ministers apparently agreed for there to reference/comparison rate and/or default offer for electricity. http://www.coagenergycouncil.gov.au/sites/prod.energycouncil/files/publications/documents/20th%20COAG%20Energy%20Council%20Communique.pdf Details of this are sketchy to say the least. But a) it’s arguably something that falls into the realm – albeit loosely – of energy policy and therefore should be treated with a hint of suspicion that it will last until next week, and b) this doesn’t really tackle the underlying issue of a differently functioning market than the text books would have us consider. I wonder how the AER (Australian Energy Regulator) or whoever will set these prices, will calculate them. And what will this regulation do to the efficiency of the markets, consumer welfare ( another economic construct – sorry – the individual benefits derived from consumption of goods and services), and possibly the entrenchment of the dominance of the big players?