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Economics for Business
Table of Contents
An industry is shaped by various forces. Among those, the demand of consumers, the economy and government play a crucial role to influence the activities of an organization in a specific industry. The banking and finance is one such industry which is impacted severely by the economic growth of its markets, the government policies and competitive dynamics (Fairbrother et al., 2018). However, the presence of a stable and competitive banking system is essential for sustainable economic growth. The sustainable growth of the economy is effective for avoiding the financial crisis and ensuring the wellbeing of the community and promoting the economic fortune of the country.
Therefore, assessing the issues in the banking industry is crucial to ensure the steady growth of the community and the country (McIlroy, 2018). In the case of Australia also, the banking and finance organizations act as financial intermediaries. Also, to take the deposits and lending, the organizations regulate the financial market, manage insurance and funds. Therefore, the role of the banking industry is important in national development. However, the banks in Australia often face prosecutions. The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry is a body which guides the banking and financial organizations in Australia for avoiding the prosecutions.
The current report deals with the analysis of the issues associated with the banking and finance industry in Australia. The market structure of the industry is discussed in the report. The report also contains issues related to the industry and its impacts. Finally, the report contains an analysis of government intervention to resolve the issue.
The market structure in the industry provides an idea on the level of competition in the industry. The structure of the Australian Banking market can be characterized as follow—
Oligopoly: The Australian banking industry can be described as an oligopoly. Oligopoly is a market environment where a small number of firms colludes for controlling the price and output (Fairbrother et al., 2018). As an effect, the firms are achieving higher market returns. In such markets, the firms become interdependent. The decision of one organization influences others. High barrier to entry is another key characteristic of the oligopoly market environment. In an oligopoly, the firms can earn higher profits in long-term due to the high entry barriers caused by licenses, patents and crucial raw materials. In the banking industry of Australia also, the legal requirements create a higher entry barrier.
It, in turn, contributes to the development of oligopoly environment. The non-price competition is observed in the market with oligopoly environment. The businesses cannot use the pricing strategies due to maintaining the cartel. Therefore, they use non-price methods such as advertising, warranties and sales services. The firms use these strategies to influence customers and develop brand recognition. In the case of the banking industry of Australia also, the pricing competition is not observed. Instead, organizations use non- price strategies to influence customers. The selling cost is important in the case of an oligopoly market. As businesses cannot use different pricing strategies, they try keeping the selling cost low to obtain a competitive advantage.
Four Pillar Policy: The role of government is crucial to influence the oligopoly environment in the market. In Australia, the government has adopted four-pillar policies to control the banking industry. As indicated by the policy, four large banks of the market are restricted from any merger or acquisition. However, banks can acquire smaller organizations. The four-pillar policy was adopted to keep the Australian market competitive and reduce the control of a particular bank over the market (Turnbull, 2019).
However, the four pillar policy is criticized for its anti-competitive nature. Due to the policy, the four large banks in Australia are immune to be acquired by foreign organizations. In a competitive market, the banks require experiencing the competition due to the merger similar to other organizations. However, in this case, the policy reduced the competition for the large banks and encouraged oligopoly.
Cartel formed by Four Large Banks and High Concentration: Forming cartel is one of the key characteristics of oligopoly. The four big banks in the Australian market dominate the banking industry at the national level. The four banks are -- Commonwealth Bank of Australia, Australia and New Zealand Banking Group, Westpac Banking Corporation, and National Australia Bank. These banks together possess a major part of the market capital. The capital hold by these four banks is considerably higher than the other organizations in the market (Gilligan, 2018).
The four organizations together have formed a cartel in the Australian market. The major stakeholders are the same for all the four banks. The similarities in the interest of the stakeholders helped these organizations to form the cartel. Formation of the cartel increased the market entry barrier for other organizations. The dominance of four large banks also increased concentration in the Australian banking industry.
Lower Concentration at Regional Market: At the regional level, local State banks, regional banks and financial intermediaries compete with each other (Cummings and Durrani, 2018). Due to the presence of multiple organizations, the concentration ratio is lower at the regional level. The foreign banks have a limited share in the Australian market. However, their impacts are noticeable in the wholesale area. Despite the limited market share, the presence of foreign banks increases the competition to some extent.
The high concentration in the Australian banking industry is one of the key concerns because of its anti-competitive effects. It increases the risk that the power in the industry is shared by few organizations only. Due to the high concentration and the associated high entry barrier, the presence of foreign banks is expected to reduce further. It can increase concentration more.
The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry was established on 14 December 2017 by the Australian government under inquire into and identify misconduct in the banking, superannuation, and financial services industry (Davis, 2019). The commission was established to identify the issues related to lack of regulatory intervention in the industry. The organizations are also ignoring statutory reporting responsibilities. They are also involved in foreign exchange trading.
The Royal Commission highlighted four key issues associated with banking misconduct in Australia. The issues are as follow—
1. Lack of focus on compliance with the law: The Royal commission revealed that compliance with legislation is not rewarded in the banking industry (Hargovan, 2018). Instead, the bonus, incentive and commission schemes aim at rewarding the sales and profit. The rewards are paid even if the profit is warned unlawfully. As individuals in the banking industry are not questioned because of unethical sales, they are encouraged to get involved in such activities more. As an effect, the tendency of non-compliance with the law is increasing in the industry.
2. The power imbalance between the entities and the consumers in the banking industry is another key reason behind the misconduct (McIlroy,2018). The consumers in the industry can choose from an array of products. However, they are not well aware of the nature of the transaction. The terms are decided by the organizations only. Individual consumers do not have any power to negotiate the terms. Therefore, consumers cannot make an informed choice. The lack of power of the consumers is also encouraging the firms to misuse their power and getting involved in the unethical activities.
The presence of intermediaries is another issued in the banking industry. The consumers in the banking industry of Australia are offered with the services through an intermediary. The consumers might consider that the intermediary is acting as per their interest. The choice of products and services is influenced by intermediary significantly. However, in many cases, the organizations pay the intermediaries to sell a particular product or service and the intermediary act accordingly (Legg, 2019).
Because of such activities, the interest of the consumer is affected. In another case, the intermediary might act for own interest. In such case also, the interest of the consumer is not protected. The interests of the service provider, intermediary and consumers differ from each other. Balancing the interest of each party is challenging in the banking industry of Australia.
The Royal Commission has revealed the factors which have caused the high level of misconduct by the banking organizations. (Bakir, C., 2019) The commission has considered culture in the banking industry is the root cause behind the misconduct. The culture of an entity should be assessed in terms of governance structure and the remuneration as they reflect the values. However, the individual entity assessment process of ARPA (Australian Prudential Regulation Authority) is not effective to determine the cultural issues due to its limited resources. As an effect, the misconduct increased.
The role of financial regulators is another reason behind the higher level of misconduct in the banking industry. In the industry, negotiation and persuasion are used often to encourage the organizations to comply with laws. However, use of this approach makes the financial organizations consider that compliance with the rules and regulations is voluntary. It also increased the level of misconduct.
The lack of governance is another factor which impacted the misconduct. The responsibility of the Board is a corporate body is playing a pivotal role to prevent misconduct by setting priorities and making the bodies accountable (Turnbull, 2019). The Board also needs to maintain the quality of the tasks and interrogate the management regarding their activities. The lack of governance system is another m issue which encouraged misconduct in the Australian banks.
The banks are not directly named in the report of the Royal Commission. However, it indicates that four major banks can experience 20 prosecutions which can be categorized as criminal, civil or both (Beck and Paton, 2018). It indicates the extent of the lack of compliance in the banking system. The report also provides referrals for further action for all the major banks except Westpac.
The regulators are recommended for better enforcement of rules and regulations. It would reduce the compliance-related issues. The commission also recommended putting an end to the systems such as conflicted remuneration. It eliminates the sales-based reward system of the banks. It, in turn, is expected to increase transparency. Finally, the Commission also recommended the banks to develop a compensation scheme with their funding.
The discussion revealed various factors which have contributed to the issues in the Australian banking industry. Firstly, the rules and regulations associated with the activities of the banking industries are not monitored closely. The banks aim at increasing the profit in any way. It enhanced the level of misconduct. The lack of rewards for compliance with the laws is also discouraging the banks from focusing more on it. The market structure in the banking industry increased the power of the leading organizations. The lack of power of consumers prevents them from being aware of the details of the products and demanding ethical services. It is another factor which encourages the banks to get involved in the misconduct.
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The banking and financial industry is one of the major drivers of the national GDP (Gross Domestic Product) in Australia. The banking and financial industry is the largest contributor to the national economy as it has contributed about $140 billion to GDP in 2017 (Li, and Islam, 2019). The industry is one of the key employment areas also as 450,000 employees are employed here (Matthews, 2018).
The steady profitability of the banking industry indicates that it would a core sector in the Australian economy in the future also. The four large banks in Australia are considered among the largest banks in terms of the market capitalization. The four large banks in Australia are also among the safest banks across the globe. Therefore, the banks enhance stability in the Australian economy.
The recommendations of the Royal Commission are expected to bring considerable changes in the existing banking system (Schmulow et al., 2018). As an effect, the national economy is also expected to be affected. The four large banks are adopting technology to transform their operations. Therefore, traditional jobs are also changing. The profitability of the banks can be impacted as the Royal Commission emphasized on compliance with the rules and regulations.
The expense of the employees is one of the areas where the banks need a large investment. In response to the changes, the four large banks are reducing the size of the workforce (Rawling and Schofield-Georgeson, 2019). Therefore, unemployment in Australia might increase. The rate of unemployment in Australia is increasing in recent years. The job cuts in banks would worsen the situation. As the Australian GDP is significantly dependent on the growth of the banking industry, the profitability loss would impact economic growth also.
Despite the temporary turbulence, the recommendations of the Royal Commission are effective for bringing major transformation in the banking industry and promoting fair competition in the market. Therefore, in the long–term, it is going to strengthen the industry. Due to the high dependence on the growth of the banking industry, the national economy is also expected to be stronger due to the reformation.
The Australian government has shown its willingness to implement the recommendations of the Royal Commission. APRA (Australian Prudential Regulation Authority) has developed a plan to implement the recommendations with several initiatives in support of the Government (McLaren et al., 2019). For instance, APRA is including internal appraisals for valuation of the lands.
While evaluating the agricultural lands, the organization would consider all the external factors which might affect the land value. The APRA is also redefining the purposes of section 37BA (2)(b) of the Banking Act to determine the responsibilities of all deposit-taking the authority to design and develop the products (Apra.gov.au, 2019). In the case of remuneration, APRA is acting as per the standards and guidelines of the Commission.`
The body has shared a draft proposal to upgrade the standards and reduce the risk of misconduct. In respect to the cultural change, APRA has planned to develop a supervisory program and assessing the cultural driver of misconduct, the body is also encouraging the organizations to be attentive to reduce the risk of misconduct. APRA has set the timeline for implementing the recommendations.
Development of timeline ensures timely implementation of the plans. In this case, also, revealing the timeline reflects the willingness of APRA and the Australian government to implement the recommendations on time. The Australian government has allocated financial resources to execute the actions (McLaren et al., 2019). Allocation of financial resources ensures smooth execution of the tasks and timely reformation of the banking system.
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The discussion indicates that the banking m industry in Australia is one of the key drivers of economic growth although it lacks transparency in terms of competition, remuneration and culture. To enhance transparency, the Royal Commission has provided several recommendations which can bring significant changes in the industry. However, to comply with the regulations and incorporate the changes, the banks are cutting jobs. It can impact the industry significantly.
Apra.gov.au .2019. APRA's responses to Royal Commission recommendations | APRA. [online] Apra.gov.au. Available at: https://www.apra.gov.au/apras-responses-royal-commission-recommendations [Accessed 16 Sep. 2019].
Bakir, C., 2019. How do the mega-bank merger policy and regulations contribute to financial stability? Evidence from Australia and Canada. Journal of Economic Policy Reform, 22(1), pp.1-15.
Beck, J. and Paton, G., 2018. Corporate law: The Royal Commission: Corporate culture spotlight: Where is all this heading?. Governance Directions, 70(6), p.351.
Cummings, J. R., and Durrani, K. J. 2018. Regulatory capital and internal capital targets: An examination of the Australian banking industry.
Davis, K., 2019. The Hayne Royal Commission and financial sector misbehaviour: Lasting change or temporary fix?. The Economic and Labour Relations Review, 30(2), pp.200-221.
Fairbrother, P., Rafferty, M., Douglas, N. and Wang, L., 2018. Retiring Hurt? The Long-term Costs of Structural Conflicts of Duty and Interest in the Superannuation Industry.
Gilligan, G., 2018. The Hayne royal commission and trust issues in the regulation of the Australian financial sector. Law and Financial Markets Review, 12(4), pp.175-185.
Hargovan, A., 2018. Governance in practice: Hayne royal commission interim report: Unclogging the central artery. Governance Directions, 70(11), p.691.
Legg, M., 2019. Litigation: Haynesplaining: Lessons for litigators from the banking Royal Commission. LSJ: Law Society of NSW Journal, (53), p.70.
Li, L. and Islam, S.Z., 2019. Firm and industry specific determinants of capital structure: Evidence from the Australian market. International Review of Economics & Finance, 59, pp.425-437.
Matthews, C. D. (2018). Banking inquiry revelations are rocking Australia. What would a NZ inquiry reveal?.
McIlroy, J., 2018. Bank scandals fuel calls for completely new system: Why we should nationalise the big four under democratic control. Green Left Weekly, (1178), p.8.
McIlroy, J., 2018. Royal Commission hears bankers' took bribes'. Green Left Weekly, (1173), p.8.
McLaren, J., Kendall, W. and Rook, L., 2019. Would the Singaporean Approach to Whistleblower Protection Laws Work in Australia?. Australasian Accounting, Business and Finance Journal, 13(1), pp.90-108.
Rawling, M. and Schofield-Georgeson, E., 2019. Australian Industrial Legislation 2018. Journal of Industrial Relations.
Schmulow, A., Fairweather, K. and Tarrant, J., 2018. Twin Peaks 2.0: reforming Australia’s financial regulatory regime in light of failings exposed by the Banking Royal Commission. Law and Financial Markets Review, 12(4), pp.193-202.
Turnbull, S., 2019. Causes and solutions for misconduct in the financial services industry. Law and Financial Markets Review, pp.1-15.
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