Submission to the Inquiry into Competition within the Australian Banking Sector 6. Fee Income

Since 1997, the RBA has conducted an annual survey of banks' fee income, the results of which are published in the RBA Bulletin. The most recent survey was conducted earlier this year and published in the June Bulletin.^[9] The results show that while banks' income from domestic banking fees has grown at an average rate of just over 10 per cent since 1997, growth in fees has been significantly less than the growth in balance sheet assets since 2002. This has led to a decline in the ratio of fee income to assets from a peak of close to 1 per cent to 0.6 per cent in 2009 (Graph 29).

One of the forces influencing the structure of bank fees was the increased competition from mortgage originators in the mid 1990s. As interest margins came under downward pressure, banks began to unwind the cross-subsidies that had existed between mortgage and deposit accounts. One specific outcome of this was that banks introduced periodic mortgage and account-servicing fees. While, in aggregate, consumers of banking services benefited from this process, the consumers of the financial services that had previously been heavily subsidised were worse off.

Pressure on net interest margins also encouraged banks to diversify their income through a greater emphasis on wealth management operations. Income from wealth-management operations now accounts for about 10 per cent of the five largest banks' total income.

More recently, the financial crisis has had two opposing effects on bank fee income. First, more aggressive competition for deposit funding saw banks reduce and remove exception fees on deposit and transaction accounts for both business and personal customers. Second, there was a repricing of credit and liquidity risks on loans and bank bill facilities, which led to increased fees, particularly on undrawn loan facilities held by businesses. In particular, the total banking fee income reported by the major banks in their 2010 financial results indicated a 4 per cent decline in fee income. Further details on the effects of these changes will be available from the RBA's next survey of bank fees which will be published in mid 2011.

More broadly, recent developments in bank fees – including ATM and mortgage exit fees – have been an area where competitive forces have been particularly apparent.

6.1. ATM Fees

ATM fee reforms came into effect in March 2009. The reforms changed the way that ATM owners receive payment for transactions made by the customers of other financial institutions (‘foreign transactions’) and the way that these costs are revealed to consumers. The RBA estimates that changes in customer behaviour as a result of the increased transparency of ATM fees resulted in an overall reduction in the ATM fees paid by consumers of around $120 million in the first year following the reforms.^[10]

Prior to the reforms, the customer's financial institution paid an ‘interchange fee’ of around $1 to the ATM owner to cover the costs of providing ATM services. This fee was typically recouped from the customer in the form of a ‘foreign fee’ that would appear on their monthly bank statement. Foreign fees were around $2 on average. The reforms abolished interchange fees and allowed ATM owners to charge customers directly for the use of an ATM at the time of the transaction (‘direct charging’). As a consequence, financial institutions have removed foreign fees. In sum, all fees associated with making an ATM cash withdrawal are now revealed at the time of the transaction and the consumer has the option of cancelling the transaction without charge if they do not wish to pay the fee.

A typical foreign withdrawal now costs the same as before the reforms (around $2, see Graph 30). However, the greater transparency of ATM prices under the new regime has resulted in customers changing their behaviour in order to reduce the fees that they pay. In the first year of the new regime, the number of foreign withdrawals fell by 18 per cent, as customers made greater use of their own institutions' ATMs, increased the average size of ATM withdrawals and made increased use of EFTPOS cash-outs, for which they typically are not charged. Around 38 per cent of ATM withdrawals are now made at foreign ATMs, compared with 47 per cent in 2007/08 (Graph 31).

The increased flexibility in ATM pricing has also meant that charges can better reflect the cost of installing and operating an ATM. For instance, owners can charge more where maintenance costs are high because of a remote location or to cover the cost of temporary installations at special events. As a result, ATM owners are able to place ATMs in locations where they were not previously financially viable. ATM numbers have increased by about 1,500, or about 6 per cent, under the new regime, and there has been an increase in ATMs in regional and remote areas.

6.2. Lenders' Exit Fees

Recently there has been consideration of lenders' exit fees, including early termination fees. For the major banks, these fees are equivalent to about 10–15 basis points per year on a loan, although early termination fees are not payable if the borrower stays with the institution for at least a few years. Furthermore, early termination fees are generally designed to recoup loan origination costs not defrayed by entry fees.

ASIC research from 2008 suggests that non-ADI lenders (such as mortgage originators) charged the highest average exit fees on a standard sized variable-rate mortgage refinanced within three years after origination. This was followed by the major banks, other banks and then credit unions and building societies. This order does not seem to have changed until recently, with a reduction in the average size of exit fees at the major banks, including the elimination of early termination fees by two of the major banks (Table 3).

Footnotes

See Reserve Bank of Australia, (2010), ‘Banking Fees in Australia’, RBA Bulletin, June. [9]

See Filipovski B and D Flood, (2010), ‘Reform of the ATM System – One Year On’, RBA Bulletin, June. [10]