Last week Chase’s UK bank informed me it was increasing my instant access savings rate by half a percent to 3.8% – passing on the Bank of England’s 50 basis point rate increase in full. The 64% of UK individuals who have their instant access savings accounts with the Big 4 (Lloyds, Natwest, Barclays and HSBC) were not so lucky. Instant access savings rates there are 0.95%, 1.1%, 0.84% and 1.34% (based on a rough sample today).
Those same banks have been passing on interest rate increases for mortgages almost immediately – as anyone whose 2 year fix has expired or is about to will confirm. Record profits of £7bn flowed to banks last year. On current trends, one would expect the Big 4 to make even higher profits this year. But passing on rate increases to borrowers while failing to do the same for savers looks increasingly unsustainable.
The FCA and CMA are now being drawn into the policy debate. Competition authorities have been trying to make competition in banking more effective for as long as competition policy has been around. The competition establishment bristled at suggestions that too much competition in banking may have been a factor in the financial crisis (see references to the dangers of a race to the bottom on lending standards in the Vickers report and the conclusion that what mattered was not competition in the abstract but effective competition). On savings rates specifically, while some competition policy makers may have bemoaned consumer apathy and reluctance to switch over the past 15 years (see the CMA’s Retail Banking Market Investigation and the FCA’s Cash savings market study) – the paltry savings rates on offer for years across the whole market did mean consumer apathy was justified. Choosing to switch savings accounts for the sake of an extra 0.1% seems like more hassle than it is worth for most people.
Interest rate rises and inflation
But now things should be more dynamic. Rates have gone up rapidly in wholesale markets around the world in the past 18 months. This has largely been driven by the actions of the US Fed and other central banks. They are reacting to the inflation sparked, inter alia, by the monetary easing that followed the end of the pandemic (the Russia-Ukraine war, disruptions to supply chains and high levels of employment are also factors). At least for those who believe “inflation is always and everywhere a monetary phenomenon”, the appropriate solution should also be monetary.
Raising interest rates is the established monetary policy tool that central banks use to bring down inflation. Interest rates impact investment and price and wage setting decisions of firms. At an individual level, interest rate rises primarily suck demand from the economy by reducing the disposable income of those paying mortgages. Around 30% of UK households have mortgages today – it was 40% twenty years ago (see here). So in practice, the Bank of England’s main inflation fighting policy is based on significantly reducing the disposable income of around 30% of households (to the extent they are not on very long term fixed rate mortgage deals).
However the transmission of monetary policy is also, in theory at least, about creating greater incentives to save. If savings rates go up, people have a greater incentive to put money into savings accounts and to spend less on goods and services. That should also help bring down inflation.
Monetary policy works with two hands when it raises rates: the left hand pulls down borrowing by making mortgages (and other borrowing) more expensive; the right hand pushes up saving by offering better incentives for people to put money in the bank rather than spending it. Both hands seek to reduce the amount of money circulating in the economy and should help bring down inflation.
In an effectively competitive market, banks would need to pass on increases in savings rates in order to attract deposits. However in the UK, the big banks have learned that loyal customers tend not to switch, and so they appear to be able to rely on consumer apathy to keep savings rates low and increase their net interest margins. A plucky new entrant like Chase (admittedly owned by the world’s largest bank) may gain a bit of market share from flighty customers who shop around, but the impact of such switching is not sufficient to discipline the big UK banks. To give one example, a recent FT article shows Lloyds’ £473bn deposit base dropped by £2.2bn in Q1 as customers sought better returns elsewhere. But small losses in market share like this appear to be more than compensated for by the high margins that can be made from the apathetic savers who make up the overwhelming majority of the Big 4’s deposit base.
Regarding the UK’s current inflation problem, monetary policy appears therefore to be working with one hand tied behind its back. Mortgage rates are going up but savings rates are not. The danger is that this will force the Bank of England to push interest rates even higher than necessary with the increases in mortgage rates (punishing 30% of households) having to do all of the heavy lifting.
What has this got to do with competition law?
Put simply, if banking was an effectively competitive market that did not need intervention, competitive pressure would force banks to increase savings rates in a timely fashion when wholesale rates are going up. There are some complexities. Raising rates may require banks to make extra provisions for credit losses – that would justify savings rates going up more slowly than mortgage rates. Similarly banks could cite term risks – with short term liabilities (instant access savings) being used to pay for long term assets (mortgages). But these are not insurmountable problems and the contrast between the Big 4 savings rates in my first paragraph and rates offered by new entrants such as Chase looks increasingly difficult to justify with wholesale rates near 5%. In the longer run, it will be interesting to see how the Bank of England’s proposals for a digital pound (on which it proposes not to pay interest) will impact banks’ net interest margins and competition for deposits: presumably commercial banks would be further incentivised when competing with a BOE digital pound to offer attractive rates on savings and current accounts to maintain access to this source of funding (which remains cheaper than wholesale funding).
For now, Government, and specifically the FCA and CMA, are coming under pressure to act. In response to a question from the Treasury Select Committee in April about whether banks were relying on customer inertia to keep rates low, the FCA replied that the rates firms offer are essentially commercial decisions. When asked another question about how profitable it was for banks to hold down savings rates while increasing mortgage rates, the FCA said that assessing whether increases in net interest rate margin and associated profits have been disproportionate is very complicated. There appears to be no significant plan for improving competition in this area in order to improve the consumer outcomes of the banks’ commercial decisions. In the absence of such a plan, the FCA appears to intend to use outcome based regulation to address the issue. Specifically, the “consumer duty” will come into force at the end of July 2023 and the FCA will hope that it helps resolve these savings market problems. The FCA has also committed to publish a report by the end of July on whether savers are benefiting from rate rises (see here).
Interest rate setting is complex but it has been considered in detail by competition authorities in recent years. The Yen LIBOR, Swiss Franc LIBOR and especially EURIBOR antitrust cases involved the EC grappling with price discovery and price formation in these markets. Cases like Cartes Bancaires also saw lending processes coming under the microscope. The fact that central banks and government policy were so intertwined in interest rate pricing made these antitrust cases particularly difficult for competition authorities to work out. But competition policy makers cannot simply close their eyes to what is going on with interest rates due to the fact these markets can be complicated.
How competition policy can enable implementation of the BOE’s monetary policy
Since 2008, the main price stability goal of monetary policy has been to avoid deflation and to push inflation closer to the 2% figure that was first targeted by New Zealand’s central bank in the early 1990s.
Meanwhile, competition policy has been expected to help bring costs for consumers down, with competitive markets expected to lead to lower costs and resultant consumer benefits.
In other words, the last 15 years have arguably seen an inflationary monetary policy alongside a competition policy partly aimed at keeping prices in check – though the focus of competition policy is admittedly on real rather than nominal prices. Today both monetary and competition policy can work together to bring inflation down.
While inflation is primarily the responsibility of the Bank of England, the implementation of its monetary policy does not work properly if banking markets are not sufficiently competitive. Competition policy makers at the FCA and CMA should therefore also play their part (along with politicians) in furthering the Bank of England’s monetary policy goals. They should apply pressure on the UK’s big banks to increase savings rates.
The CMA/FCA need not bring a cartel case against the banks. Indeed the chances of them finding evidence of actual collusion would likely be slim. But softer options are available. Authorities with responsibility for competition in the savings market (the FCA/CMA) could launch the kind of “taskforce” on cost-of-living rates that they did in the pandemic. A market study like the one used to track fuel market prices last year is another option. A cynic might question the value of these exercises. But with the cost-of-living crisis and inflation being the biggest consumer issues of the moment, it would seem unsatisfactory for the CMA and FCA to stand idly by.
The CMA is due to provide a report next week on the profit margins of supermarkets and fuel retailers and a more detailed study on grocery pricing will be published later in July. The FCA appears to be likely to publish a report that will cover savings rates at the end of July – though they may focus on the forthcoming “consumer duty” rather than tools to address a lack of effective competition in savings markets.
The FCA’s 2022 strategic review contained profitability analysis of the UK savings market and mortgage market. That was done over a year ago and is based on old data. At the very least one would hope that analysis could be updated for the new world of higher rates.
Considering inflationary issues in specific market sectors like groceries and fuel from a microeconomic perspective is of course important and it is right that the CMA does this. But as set out in this article, in the case of instant access savings rates, the CMA and FCA may also be able to make interventions that assist the Bank of England with its macroeconomic approach to inflation fighting. Even in the absence of competition law infringements, they should not underestimate the extent of soft power that they can wield.
Conclusion
Companies should take these kinds of investigations seriously, from both a legal and a public relations standpoint. For as long as inflation remains entrenched, competition authorities will be under pressure to gather information and be seen to be on the side of consumers – primarily in relation to specific sectors like groceries and fuel that impact on everyone, but also, as I argue above, in relation to sectors such as savings that are more closely linked to macroeconomic policy. The next few weeks will see several such reports being published. Companies need to have a coherent and evidence-based strategy about what they want to achieve.
Disclaimer: the author is a former Assistant Legal Director at the UK Competition and Markets Authority. He has no affiliation with Chase bank. This is not financial advice.
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