WealthMaker’s Michael McAlary provides a snapshot of big-picture issues for the financial services inquiry
A robust financial services system that everyone has confidence in is an important pillar of a democracy. The federal government’s support of the banking system during the GFC was necessary, as the counterfactual of financial system failure would have been far worse, as Iceland can attest.
The moral hazard debate has been liberated by the federal government’s move from the implicit to explicit guarantee of retail deposits and whole funding lines even though the banks paid for these guarantees. It had been the elephant in the room for many years, but now the Financial Services Industry Inquiry (FSII) has the opportunity to address the legacy issues that are continuing to impact on consumers, taxpayers, investors and businesses today. Some of the flow-on implications include a change in investor behaviour and a misperception that the financial services sector can be a major driver of economic growth. It is also a reason, along with quantitative easing, for the misallocation of the capital flows.
This moral hazard debate goes to heart of the role of an ADI. They are mobilisers of capital, and their return on equity should track credit growth, reflect changes in their capital base, productivity improvements and considered credit risk taking.
SEPARATE PRODUCT MANUFACTURING FROM DISTRIBUTION
Given their perceived status as ‘too big to fail’, there has been media commentary that the major banks should be broken up.
The real question, however, is whether an ADI’s role should be limited to product manufacture. If their mandate was limited to mobilising deposits and providing lending products, then distribution of all products, including deposit, investment and lending products, to consumers and businesses would be done through independent third parties.
Limiting ADIs to manufacturing product would go a long way towards addressing the moral hazard issue as no institution should be too big to fail. It might lead to a more level playing field among ADIs in terms of access to retail and wholesale funding, while increasing competition and product innovation.
Importantly, consumers would get independent home loan and investment advice, which isn’t possible under today’s conflicted situation in which ADIs own differently branded mortgage brokers, aggregators or dealer groups. It could also help foster development of the corporate bond market as the banks would be keen to develop new product manufacturing income streams.
The current diversified businesses are complex and therefore inherently risky. A simpler business model would enable bank management, boards, investors and regulators to better understand the risks.
Currently, institutional and retail investors buy bank shares with their ears pinned back because their investment and returns are in effect guaranteed.
Longer term, the banks would be treated as an asset class like infrastructure. Retail and institutional investors, either directly or through S&P/ASX 200 Index-based investing, would seek out other asset classes because the banks would comprise less of the benchmark index. There would be less institutional investor demand for bank shares, helping Australia to address its capital shortage to fund major infrastructure projects and reducing reliance on foreign investors that comes at a premium.
The world is a very different place from when the previous financial services industry inquiries were held. These inquiries resulted in the deregulation of the financial services industry, and the changes went hand in hand with other macro and micro economic reforms. We have now lived with a deregulated environment for 30 years and it has generally served us well, but today the challenges are different. Australia is now part of a global economy; there is an ageing population, a drive for productivity improvements through offshoring and outsourcing, and the internet is delivering new and exciting opportunities. The FSII can go for incremental changes that may only serve the current players, or it can be bold and determine a framework that supports Australia’s future economic growth.
Michael McAlary, CEO WealthMaker Financial Services(www.wmfs.com.au)