Australian banks face squeeze as conduct probe crimps pricing power

Bloomberg

A recent spike in funding costs is happening at the worst time for Australia’s big banks, as intense public scrutiny crimps their ability to pass on increases to customers.
The banks are fighting to defend their reputations in the face of an inquiry into misconduct and mistreatment of customers. Two weeks into hearings in front of a Royal Commission, allegations have included claims some bank staff took cash bribes to
facilitate mortgages based on fake documentation, while others sold unnecessary insurance policies.
At the same time, the big four lenders — Commonwealth Bank of Australia, Westpac Banking Corp., Australia & New Zealand Banking Group Ltd. and National Australia Bank Ltd. — face a jump in their short-term financing costs both at home and offshore. The Libor-OIS differential, a key indicator of US dollar borrowing costs, has more than doubled since the end of January, and domestic three-month bank bill rates have also surged.
“Australia’s banks are really stuck right now,” said Thomas Clarke, who researches corporate governance at the University of Technology Sydney. “They’ve always passed increased costs onto customers, especially for mortgages, as if it were an automatic process,” he said, adding that banks would “be very brave to do that now with the Royal Commission in progress.”
Analysts at Macquarie Group Ltd. estimate a 10 basis-point increase in spreads could reduce banks’ margins by between 1 and 2 basis points and earnings by around 1 percent. Profits are already under pressure from a slowing housing market and a subdued economic outlook.
One of the original sparks for public criticism was the failure of the big banks to pass on central bank interest-rate cuts to clients in 2016. That makes any repricing that would increase customer costs particularly sensitive.
“The last thing they want to be seen doing right now is gouging their retail customers,” said Andrew Hughes, who lectures on branding at Australia National University in Canberra. “If they are seen to be making more price increases it looks bad. It looks as though there needs to be greater reform and that would give the opposition the ammunition they need.”
A national election is due next year and Prime Minister Malcolm Turnbull has now trailed in 29 consecutive opinion polls. A key plank of the opposition Labor party’s platform is increased bank regulation.
The banks still have options to lessen the impact of higher funding costs, according to Brett Le Mesurier, a senior analyst at Shaw and Partners.
“They will do something,” he said, pointing to alternatives such as reducing deposit rates or curbing discounts offered below the advertised mortgage rates. There would be political cover for reining in such discounts because the practice was criticized in a recent report from the competition regulator.