Original identification: impeding or enabling churn

Because of my background with Westpac's Trust Centre, and a general interest in economics and the banking system, I have found the recent comments by the new Australian Government regarding account switching very interesting.

Treasurer Wayne Swan [1] and Finance Minister Lindsay Tanner [2] have both been in the press [6] over the last week berating the banks for raising interest rates above the recent increment by the Reserve Bank of Australia (RBA).

The twist here is that under the Australian banking system, there is, by design, very little the Government can do about the rates banks choose to charge borrowers. Some time back (under the previous Government), the Reserve Bank was given the power to independently set rates, and the banks now respond to this, setting rates as they deem appropriate for market conditions.

Of course, this is a Good Thing. Leave the Reserve Bank to handle the cash rate and leave the Government to look after fiscal policy. That's a sound economic principle and a pillar of the Australian banking system. And for the most part it works.

Unfortunately, the fact that falling interest rates often signal a worsening economy and rising rates often signal a warming (or even overheating) economy is lost on most people. Complicating issues further is the fact that almost all of the reasons rates move around lie beyond the control of a single Government, or jurisdiction. They rest pivotally with the machinations of the global financial system, and the large economies of the World such as the US, China, Europe and Japan. Regardless of this fact, politicians of all kinds love to take credit for rates falling, and shift the blame onto external factors when rates go up.

What is interesting about the new Government's response to the recent rises is that instead of simplistically trying to move the blame for the rise to external factors, or shaming the banks publicly, they've taken the unusual step (at least in this country) of resorting to competition policy.

One thing that characterises the Australian retail banking sector is that it is highly concentrated. We have 4 very large banks and 1 not-quite-so-large bank, plus a handful of smaller regional institutions and credit unions. Between them, the Big 4+1 have the vast majority of retail banking business in Australia.

This concentration has lead to a rather stable market where there are very few positive incentives for customers to change banks. From the banks' point of view, any kind of price competition simply ends up eroding value, so they do not typically engage in that kind of behaviour.

This has led to a situation where it is quite difficult (by design) to move around from bank to bank. Closing down direct debits and re-initiating them is a complete nightmare, and changing mortgages is even worse. Exit and entry fees generally make it so expensive that the average person finds just too hard to switch.

And so the Government, in the face of some banks raising home loan mortgage rates by an amount greater than the recent RBA increment, has turned to competition policy. It has taken the view that if banks are going to do that, then the Government will seek to make it easier for consumers to switch.

Like the independence of the Reserve Bank, this is a Good Thing. In fact, it's precisely the kind of thing a Government should do in a mature and sophisticated banking market - make sure that structural inefficiencies (such as barriers to changing banks) do not artificially distort the retail interest rate. If it is too hard for a customer to switch banks, then it is easier for the bank to load up rate increases without fear that it will lose customers. Conversely, if it is easy to move, then a rational customer presented with an artificially high rate rise will simply change banks and choose the provider with the lowest rate. Over time, this will place downward pressure on the retail rate.

What does this have to do with the Trust Centre? In order to switch banks, I have to identify myself to the institution. Up until recently, this process was known as the '100 point check', where I used a variety of physical identity credentials to demonstrate my identity to the bank. Now that the banks have switched over to a 'risk based approach' under the Anti-Money Laundering and Counter Terrorism Financing Act, the process is not so straightforward. Organisations are using different methods to identify customers, and some are stronger than others.

An obvious attack in a switching-enabled system would be to establish an account with an organisation that had low identification standards and switch it over to an account with an institution that higher identification standards. So, whatever measures the Government implements with respect to switching, it is going to have to take serious care with working through the process of original identification.

Of course, if the consumer is strongly identified in the first place, and issued with an equally strong uniformly recognised identity credential, then switching is pretty easy. But the questions here remain as ever: What process? What credential? Who pays for it?

These were precisely the questions asked during the Trust Centre project. I wonder if anyone has the answers?

M@

References
[1] The Hon Wayne Swan MP, Treasurer
[2] The Hon Lindsay Tanner MP, Minister for Finance and Deregulation
[3] Accelerated account switching planned
[4] Switching in vogue
[5] Identity checks an equal barrier to account switching
[6] Cost of bank switches to be cut