The banking Royal Commission is probably old news by now.
But the surprising part is that the confessions keep on coming. Fraud, incorrectly taking homes from customers, overcharging, and hounding customers over debt, is just in a day’s work it seems.
One commentator said the admissions were ‘nothing short of breathtaking.’
According to the Australian Financial Review:
‘Among the key confessions were ANZ’s admission that a pair of business bankers colluded with third parties to write 47 fraudulent loans, Commonwealth Bank’s charging of merchant fees where the services were not being used, NAB’s failure to provide appropriate warnings and disclosures to guarantors and three instances where Westpac took inappropriate enforcement action against customers where assets, including homes, had been repossessed.’
All up there are about 5,540 submissions against lenders from the public. Clearly there is a problem. But that problem isn’t corporate boards. It’s the incentive system within the banking industry.
Incentives gone wild
The incentive of profit is what makes capitalism work so well.
No business can continue to make losses for long. The market dictates what survives and what doesn’t. Investment and spending, therefore, goes to the very best ideas.
It’s amazing what this can do over time. I’ve brought it up before, but consider North and South Korea.
It wasn’t long ago that both countries were wallowing in poverty.
Reforms and the market’s invisible hand is all it took to put a rocket under South Korea’s economy. Today they’re one of the most efficient economies in the world.
And this happened in many of our lifetimes. What South Korea achieved in such a time is nothing short of a miracle.
It’s why they call it the Miracle on the Han River.
Yet if you tell a group of salesmen to maximise sales, things might not work out so well. If sales are the top priority, then it could incentivise bad behaviour.
In the example of lenders, you might start out only lending to those that can afford the repayments. Yet if the incentive is to rake in as much money as possible, you might start bending the rules a little.
Instead of lending to those that can afford it, you start lending to riskier borrowers. And it’s justified for the sake of sales.
That’s why it’s not really surprising banks and other large institutions get into these situations. They simply haven’t crafted a great incentive system yet.
The same happens to most publicly listed companies. They give management stock, which incentivises them to push the share price higher.
And there are ways to achieve this, while also destroying value for shareholders:
- Repurchasing shares when those shares are overvalued
- Paying dividends when you could achieve high returns on reinvested capital
- Value destructive acquisitions to show activity, which might push shares higher
I would argue that most public companies also haven’t got a really good incentive system.
However, this is probably the least of the banks’ problems right now. In a few years’ time you might not be banking with CBA or ANZ. You could be banking with the same company that provides online shopping, social media and everything else.
The everything business
What percentage of the population has a bank account?
In Australia, pretty much everyone has one. But would you be surprised if I told you 39% of the developed world doesn’t have an account?
Even as cashless payments are on the rise, many are without a bank…
In the developed economy, a far higher percentage of people are without a bank. And they probably don’t even need one.
Filling the spot of banks are some of the largest tech companies in the world — Alibaba Group Holdings [NYSE:BABA] and Tencent Holdings Ltd [HKG:0700].
Back in 2015, Chinese ecommerce, payment, logistics and pretty much everything giant, Alibaba, launched a lending arm called Ant Financial.
Originally Alipay, Ant Financial not only lends money to consumers, they also manage money for the ‘little guy’. South China Morning Post wrote late last year:
‘Ant Small Loan’s consumer loans business has served over 12 million users. Its customers are individuals or companies that need short-term funding as they shop for purchases on Alibaba’s e-commerce platforms.’
‘…It launched a cash loans product that is unrelated to purchases on Alibaba’s e-commerce platforms. The company can quickly approve a borrower’s credit limit according to risk metrics generated by a borrower’s repayment and online behavioural data.’
Through their ever-popular WeChat app, Tencent offers similar services. More recently, the Hong Kong tech giant announced plans to set up a virtual bank in East Asia.
For now, regulation is protecting many Western banks. But for how long will that last? Consumers are fed up with banks and there are viable alternatives growing in the East.
It might only be a matter of time…
Editor, Money Morning
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