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Royal commission to cost banks billions in revenue

Royal commission to cost banks billions in revenue

Higher capital requirements, tighter regulation and the high costs of adopting and implementing measures in response to commission outcomes are expected to have a significant impact on the bottom line of Australia’s banking sector.

IBISWorld senior industry analyst Tommy Wu said that the outcome of the commission will likely have a broad impact on banks and their shareholders, with revenue in the national and regional commercial banks industry expected to decline at an annualised 1.4 per cent over the five years through 2017–18 to $148.2 billion. This is down by $10.8 billion from $159.0 billion in 2012–13.

“The Australian Prudential Regulation Authority (APRA) has already announced its intention to raise capital benchmarks to unquestionably strong levels, with banks expected to meet these levels by 1 January 2020. This already represents a significant cost to the major banks and their shareholders,” Mr Wu said.

“The Commonwealth Bank (CBA) will be particularly under pressure, with APRA slapping an extra $1 billion capital charge on the bank following the prudential inquiry into the bank. This charge will remain until the inquiry’s recommendations are met. This potentially puts CBA in the weakest capital position of the major banks.”

Change in broker commissions

The analyst noted that the royal commission has also highlighted the misaligned interests between customers and brokers in the remuneration structure for mortgage products.

“Ongoing and upfront commissions for brokers were maximised when customers took on larger mortgages and repaid them over a longer period of time,” Mr Wu said.

“Commissions for mortgage broking could replicate the approach in life insurance remuneration, where regulators have reduced and capped ongoing and upfront commissions. This will be the case if financial institutions remain vertically integrated, as highlighted by Westpac revising its remuneration model.”

Shareholders and consumers bear the brunt

Mr Wu said that it remains to be seen who will be ultimately bearing these increased costs, but it would be naïve to think that it will be borne purely by the banks.

“The major banks have only just recently cut interest rates on interest-only mortgages, as they seek to regain lost market share in the mortgage market after overestimating APRA’s existing caps on new lending.

“The immediate consequence of the royal commission should be tightened lending standards for consumers and businesses, which will likely provide some opportunities for other banks and non-bank lenders. Banks will need to assess the impact of higher regulatory costs on bottom lines, and balance compliance costs with returns to shareholders.”

Mr Wu believes that the banks could potentially become smaller, moving away from other services and going back to basics in terms of their core business of lending.

“This has already started to happen, with several of the major banks divesting their wealth management businesses. Greater compliance, combined with increased scrutiny, has led to banks offloading these divisions, especially as investment returns have weakened for these businesses.

“This move away from providing advice and scaling back operations will help reduce risk for the major banks, minimising the potential for further significant regulatory trouble.”

The next round of hearings is scheduled to take place from 21 May to 2 June 2018, during which the four major banks, Bank of Queensland and Suncorp will be called to discuss SME lending.

[Related: Westpac slams ‘incorrect’ PwC mortgage report]

Royal commission to cost banks billions in revenue
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