15/02
14 March 2002
SUPPLY OF BANKING SERVICES TO SMEs
The Chancellor of the Exchequer and Secretary of State for Trade and Industry
today published the Competition Commission’s monopoly report on the supply
of banking services by clearing banks to small and medium sized enterprises
(SMEs). The Chancellor of the Exchequer and Secretary of State for Trade and
Industry, having taken the advice of the Director General of Fair Trading,
have fully accepted the recommendations of the Competition Commission. This
press notice is to explain briefly what the report said.
The Competition Commission made a number of adverse findings about the supply
of banking services by clearing banks to SMEs. It found that a number of specific
practices of the four largest clearing groups—Barclays, HSBC, Lloyds TSB
and Royal Bank of Scotland Group— restrict and/or distort price competition
and result in those clearing groups charging excessive prices to SMEs in England
and Wales to an extent that would not be expected in a fully competitive situation.
There are other adverse effects (in Scotland and Northern Ireland as well as
England and Wales) on the level of choice and the level of information available
to SMEs resulting from the practices of those same four clearing groups – but
also from the practices of the other four main clearing groups in Scotland
and Northern Ireland—National Australia Bank (the parent company of Clydesdale
and Northern), Bank of Scotland, Bank of Ireland and Allied Irish Bank trading
in Northern Ireland as First Trust Bank.
The Competition Commission said that its preference was to remedy the adverse
effects identified by encouraging competition. It recommended a number of measures
to apply to all the eight main clearing groups to increase competition and
reduce barriers to entry and expansion. Primary among these are measures to
ensure fast error-free switching which the Competition Commission regards as
crucial to a more competitive market. In addition, the Competition Commission
has recommended measures limiting bundling of services and improving information
and transparency, and an examination of the scope for sharing of branches.
Measures to improve switching are likely to improve the ability of SMEs to
shop around in the event of high prices or poor service, but the Competition
Commission also suggested other measures for inclusion in the industry code
recently published by the British Bankers’ Association to alleviate some
of the occasional but serious concerns of SMEs about their relationship with
their banks.
Such behavioural measures will over time assist entry and the development
of competition, and help to reduce the current incidence of excessive prices,
as well as addressing the adverse effects on choice and information. However,
there will inevitably remain many constraints on SMEs switching supplier and
on competition and entry. The Competition Commission do not believe that those
measures, together with technological and other developments in the supply
of the reference services, will have sufficient impact on competition within
the next two to three years to ensure that the incidence of excessive prices
for banking services (including interest forgone particularly on current accounts)
of the four largest clearing groups in England and Wales would disappear in
a reasonable period of time.
The Competition Commission believed therefore that it is necessary to give
the level of prices a decisive and significant shift toward what it considered
to be competitive levels. The Competition Commission looked at the overall
level of excessive prices and profits in services to SMEs and found that essentially
they arose from the failure of the four largest clearing groups to pay sufficient
or, more usually any interest, on current accounts or sufficient interest on
shorter-term, smaller deposit accounts.
The Competition Commission recommended that the four largest clearing groups
be required to pay interest on SME current accounts in England and Wales at
Bank of England base rate less 2.5 per cent. Over the period 1998 to 2000,
this would have reduced prices to SMEs on average by £525 million a year, compared
to the excessive prices identified by the Commission of £725 million a year,
thereby allowing for the fact that the Commission saw some scope for improvement
in competition. The four largest clearing groups should be allowed alternatively
to offer SMEs accounts that are free of money transmission charges, as applies
in the personal sector; or to offer SMEs a choice between the two options.
The Commission recognised the risk that the clearing banks would seek to negate
the effect of paying interest on SME current accounts by increasing money transmission
charges. Regulating money transmission charges would represent a substantial
burden. It therefore recommended that the four largest clearing groups should
publish and provide to the Director General of Fair Trading (DGFT) information
on any changes in money transmission charges for SMEs. Users and user groups
should also draw to the DGFT’s attention any increases in charges or interest
rates, or evidence of any decline in quality of service or willingness to lend.
It recommended that three years after implementation of the remedies, the
DGFT should review whether further measures are needed or, on the other hand,
in the light of market developments, whether any or all of the measures being
implemented can be modified or discontinued.
Competition Commission findings
The Competition Commission found banking services by clearing banks to SMEs
to include a number of relevant markets: for liquidity management services,
which include business current accounts, overdraft facilities and short-term
bank deposit accounts; for general purpose business loans to SMEs; for other
types of business loans (such as asset finance) to SMEs; and for other business
deposits held by SMEs. It also found that there were three separate geographical
markets (in England and Wales; Scotland; and Northern Ireland) for liquidity
management services and general purpose business loans, but that other markets
for banking services were UK-wide. There is significant market concentration
particularly in the markets for liquidity management services, 90 per cent
or more of such services being supplied by four clearing groups in each geographical
market. That degree of concentration has changed little over the last ten years.
The Competition Commission found the markets to be characterized by a reluctance
on the part of SMEs to switch banks. The reasons for this included the perceived
complexity of switching for little financial benefit; the perceived significance
of maintaining relationships with a particular bank or particular relationship
manager; and the ability of the existing bank to negotiate lower charges or
otherwise respond if there is a threat of switching. A substantial majority
of SMEs also prefer to obtain their purchases of liquidity management services
and general purpose business loans from the same source, with some clearing
banks requiring an SME to have a current account as a condition of a loan or
a deposit. There is limited price sensitivity among SMEs, prices being regarded
as less important than the quality of service provided and availability of
funding when needed. The Competition Commission also noted a lack of transparency
in the determination of availability and price of overdrafts and general purpose
business loans.
The Competition Commission found a number of specific practices restrict and/or
distort price competition. For example, there is a similarity of pricing structure
between the main clearing banks, including in general no payment of interest
on current accounts; a pattern of differentiation in charges by the clearing
banks, with free banking generally confined to certain categories of SMEs,
in particular start-ups and, to a lesser extent, switchers; and use of negotiation
to reduce charges for those considering switching. The effect of such differentiation
is to limit effective competition to particular categories of customer, preventing
the benefit of competition diffusing through to the majority of customers.
Taken together, it is the view of the Competition Commission that these factors
indicate a market lacking effective competition among suppliers.
The Competition Commission also found that there were significant barriers
to entry and expansion in the markets for liquidity management services and
general purpose business loans. These result in part from many of the above
factors, such as the unwillingness of SMEs to switch, the perceived significance
of maintaining relationships and the provision of free banking to start-up
businesses, as well as other factors, such as reputation, the need for a branch
network, and the existing personal customer base of the main clearing groups,
from which most new SME customers are drawn. The Competition Commission’s
attention was drawn to a number of technological developments and it expected
other recent developments in the supply of the reference services to have some
impact on the markets, but it did not see these developments as substantially
increasing competition within an acceptable timescale.
The Competition Commission concluded that, as a result of the restriction
and distortion in price competition it found, the four largest clearing groups
are together charging excessive prices (including interest forgone on non-interest-bearing
current accounts) and therefore making excessive profits, in England and Wales,
of about £725 million a year over the last three years with adverse effects
on SMEs or their customers. For the most part, it found no such excessive prices
in Scotland or Northern Ireland.
The Commission’s conclusion
The Commission’s main findings under the Fair Trading Act were therefore
that there are a number of practices, each carried out by some or all of the
clearing banks (together accounting for over 25 per cent of supply of the reference
services), which constitute a complex monopoly situation in that they restrict
and/or distort price competition in the supply of the reference services. These
include generally confining the provision of free banking services to start-ups
and switchers; generally not paying interest on current accounts; giving discriminatory
discounts through negotiations; and refraining from price competition in setting
prices such that they more than adequately finance an efficient SME banking
business.
It found the practices of the four largest clearing groups and of the other
four main clearing groups in Scotland and Northern Ireland to be against the
public interest by adversely affecting choice and the level of information
available to SMEs. It also concluded that the practices of the four largest
clearing groups are against the public interest in that they result in those
clearing groups charging excessive prices to SMEs in England and Wales to an
extent that would not be expected in a fully competitive situation and, in
one case (NatWest, recently acquired by RBSG), have permitted an inefficient
level of costs.
NOTES TO EDITORS
The Commission’s detailed conclusions
The Commission’s main findings under the Fair Trading Act were that there
are a number of practices, each carried out by some or all of the clearing
banks (together accounting for over 25 per cent of supply of the reference
services), which constitute a complex monopoly situation in that they restrict
and/or distort price competition in the supply of the reference services.
The practices are:
(a) Restricting price competition in relation to money transmission charges
by generally confining the provision of free banking services to certain categories
of SME customers, namely start-ups and some switchers from other banks; and/or
using the scope for negotiation to reduce charges for those likely to switch.
(b) Restricting price competition in relation to business current accounts
by generally not paying interest on such accounts.
(c) Restricting price competition on smaller, short-term deposit accounts
by offering low rates of interest in relation to the value of funds to the
bank.
(d) In relation to both current and deposit accounts, distinguishing between
personal and business accounts and encouraging or requiring most or all SME
customers to have business accounts, thereby restricting the choice of charges
they pay and interest rates they can earn.
(e) Giving discriminatory discounts through negotiation whether or not
against established tariffs, with the effect of making price competition more
difficult, and thereby reducing the benefits for customers of competition.
(f) In consequence, maintaining a structure of charges not related to the
structure of costs and unduly discriminating between SME customers.
(g) Failing to promote the scope for savings from use of set off or sweep
facilities to all of the SME customers who could benefit from them.
(h) Failing to provide a regular breakdown of interest charges arising
on SME current accounts.
(i) Requiring SMEs wishing to borrow or use business deposit accounts to
have a business current account.
(j) Setting prices, in terms of charges and in terms of interest rates
on loans, current accounts and deposit accounts, such that they more than adequately
finance an efficient SME banking business, such as would emerge under fully
competitive conditions.
The Commission found that these practices adversely affect the public interest
in that they:
(a) permit and result in at least one supplier of the reference services
(National Westminster Bank) incurring costs at a level significantly higher
than would be expected in a fully competitive situation resulting in inefficiencies
in use of resources;
(b) result in the four largest clearing groups (Barclays, HSBC, Lloyds
TSB and Royal Bank of Scotland Group) charging excessive prices for banking
services to SMEs in England and Wales, to an extent that would not be expected
in a fully competitive situation, and hence increasing the costs of SMEs with
adverse effects on SMEs, restricting their contribution to the economy, and
on their customers;
(c) adversely affect the level of choice of banking services available
to SMEs in England, Wales, Scotland and Northern Ireland, when carried out
by the eight largest clearing groups (AIB Group (UK) plc trading in Northern
Ireland as First Trust, Bank of Ireland, Bank of Scotland, Barclays, HSBC,
Lloyds TSB, National Australia Bank (through its subsidiaries Clydesdale and
Northern) and Royal Bank of Scotland Group); and
(d) adversely effect the level of information available to SMEs in England,
Wales, Scotland and Northern Ireland about the payments made on unauthorised
overdrafts and the availability and potential savings from use of set-off and
sweep facilities, when carried out by the eight largest clearing groups listed
above.
In order to remedy the adverse findings, the Commission recommended that the
eight main clearing banks give undertakings that they will:
(a) complete a substantial percentage of all account switching within five
working days where no borrowing is involved and in all but the most exceptional
cases ten working days if borrowing is involved (in the absence of security),
with compensation if those timescales are not met;
(b) publish their performance objectives regarding (a) and their efficiency
in achieving them;
(c) use best endeavours to resolve the problems associated with originators
of direct debits, and publish a report on progress in doing so within 12 months
of publication of this report;
(d) examine ways to allow more rapid transfer of security and publish a
report on this within 9 months of the publication of this report;
(e) impose no charges on closing or switching accounts other than cost-related
charges related to early termination of loan arrangements or transfer of security;
(f) publish whether or not they are willing to pay towards legal/valuation
charges for transfer of security, and if so in which circumstances and up to
what limits;
(g) provide a portable credit history to a timescale and format to be approved
by the DGFT;
(h) not impose any requirement to hold a current account to obtain a loan
or hold a deposit account unless required for legal or technical reasons;
(i) if there are such technical reasons, to overcome the technical constraints
within 12 months of the publication of this report (subject to DGFT confirmation),
until which time they should specify in their terms and conditions that the
obligation to hold a current account is a temporary requirement for systems
reasons, and that no charge for the account will be made;
(j) compile price information relating to clearing banks’ standard
tariff prices for money transmission services and interest paid on current
and short-term deposit accounts in a form approved by the DGFT that would enable
price comparisons readily to be produced, and to publish or procure the publication
of such information free of charge in a manner approved by the DGFT;
(k) bring to the attention of their SME customers the availability of such
information in a manner approved by the DGFT;
(l) inform SMEs whether a charge for the use of an unauthorized overdraft
has been levied; if an SME has not been so informed (or requests such information)
the clearing banks should be required to specify on statements the higher rate
that applies on unauthorised overdrafts and the amount of the overdraft to
which the higher rate applies; and
(m) investigate the feasibility, costs and associated benefits of a national
scheme in which the main clearing groups would be required to enter into arrangements
(not necessarily reciprocal) with those without a local branch presence in
a particular area for use of branches on fair, reasonable and non-discriminatory
terms to be approved by the DGFT and publish the results 1 year after publication
of this report.
However, the Commission does not believe that these remedies together with
technological and other developments in the supply of reference services will
have sufficient impact on competition within the next two or three years to
ensure that the excessive prices charged by the four largest clearing groups
in England and Wales would disappear in a reasonable period of time. The Commission
therefore recommends that these four groups should also be required to offer
SMEs operating current accounts in England and Wales an account that pays interest
at the Bank of England Base Rate minus 2.5 per cent. Alternatively, they should
be allowed to offer SMEs current accounts that are free of money transmission
charges, or a choice between the two. They should also have to notify to the
DGFT and publish information on any new money transmission charges and increases
in existing money transmission charges. Three years after implementation of
the remedies, the DGFT should review whether further measures are needed or
whether any or all the measures being implemented can be modified or discontinued.
The Commission also made a number of suggestions (not backed up by adverse
findings) for further action that could be taken:
(a) The Government should investigate the scope for extending to SMEs (to
the extent they do not already exist) the type of safeguards currently available
to consumers under the Unfair Contract Terms Regulations 1999 (amended in 2001),
to be limited to those SMEs lacking the bargaining power of the larger ones.
(b) The British Bankers Association’s Business Banking Code for SMEs
(which came into force in March 2002) should be extended to include:
- an agreement to provide a statement of cleared balance on request at an
approved and published charge;
- a requirement that reasons for refusing a loan application be given on
request including written reasons if requested;
- in the event of any move to standard contracts meeting the criteria that
all written terms will be fair and will set out the customer’s rights
and responsibilities clearly and in plain language, using legal or technical
language only where necessary, a requirement that they be approved by the
Plain English Campaign;
- as to errors and compensation, a requirement to settle or use best endeavours
to settle a specified percentage of disputes within a specified period of
weeks, and performance tables monitoring the incidence of disputes and performance
against this objective;
- a commitment to pay for errors according to a standard scale of compensation,
possibly including agreement to pay SME costs and costs of any agency advising
the SME if the bank is in error and/or if an award of an independent arbitrator
is greater than compensation offered;
- as to security, a commitment to take the minimum practical security unless
in return for an explicit improvement in terms, including means to appeal
against unnecessarily high security, and rules for taking of third party
security and guarantees.
(c) The Government should consider the scope for increasing the remit of
the Financial Ombudsman above the current £1 million turnover limit. A similar
extension in the scope of the Code could also usefully be considered.
(d) SME representative bodies are encouraged to identify and report to
the DGFT any indication that money transmission charges (whether tariff-based
or not) are increasing, or money transmission services are deteriorating, or
the banks introducing conditions to their accounts that would negate the purpose
of the interest on current account remedy to the detriment of SMEs.
(e) SME representative bodies are encouraged to be alert to any indication
of an adverse change in banks’ lending policies or in lending prices including
both interest and fees, and to report any such indication to the DGFT, who
should consider whether another reference is appropriate.
Background
Copies of the Competition Commission report ‘The supply of banking services
by clearing banks to small and medium sized enterprise’ Cm 5319 (£134.55)
are available from the Stationery Office or from the Commission’s website www.competition-commission.org.uk/reports/462banks.htm Press
copies are available from the DTI Press Office.
The inquiry was referred to the Competition Commission by Stephen Byers, Secretary
of State for Trade and Industry, and Gordon Brown, Chancellor of the Exchequer,
under sections 47(1), 49(1) and 51(1) of the Fair Trading Act 1973 (see DTI
press notice P/2000/194).
A ‘complex’ monopoly situation in relation to the supply of services
of any description in the UK is said to exist under Section 7(2) of the Fair
Trading Act when at least one-quarter of the services supplied are supplied
by or to one and the same person or by or to members of the same group (not
being interconnected bodies corporate) who, whether voluntarily or not, and
whether by agreement or not, so conduct their respective affairs as in any
way to prevent, restrict or distort competition, whether or not they themselves
are affected by the competition and whether the competition is between persons
interested as producers or suppliers or between persons interested as customers
of producers and suppliers.
Enquiries should be directed to: Francis Royle, Press Officer tel: 020 7271
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