The state of the Financial Services industry, part 2

Our piece two months ago on poor service in the Financial Services industry (“What is wrong with the Financial Services industry?”, 2.08.20) received a large number of replies.  Many of them were from individual readers, usually in complete agreement and often detailing similar experiences of doing business with the banking system or the like.  Indeed, several people described examples of poor service that were even more extreme and depressing than those we ourselves mentioned.  But not all the replies were battle stories from frustrated customers; some of the responses were from the financial industry itself.

Not that we received any replies from anyone in, let alone speaking for, the retail banking sector itself.  That would have been too much to expect.  But there were comments from former colleagues and contacts in the wholesale financial sector, from various financial think tanks, and from central bankers.  And they painted quite an interesting and perhaps even unexpected picture.

The first point is that the complaints we were making are well recognised, not least because everyone who wrote to us is also in their private life a customer of the retail banks.  The second point is that those in a position to do something about this – whether central bankers and regulators, or those running wholesale financial services companies – are genuinely trying to change things.

In the case of central banks, they have been urging the banking system to change its ways (“refocus their priorities” is the language more commonly used) for at least the last 10 years.  It was a clear condition of the very considerable rescue of the banking system after the Global Financial Crisis in 2008 that having received significant support from the authorities in their management of markets, and in some cases very large amounts of public money as well, the authorities did not want to see a simple return to the old way of doing business, as if nothing had happened.

This urging has taken place in a number of ways.  Central banks have employed their traditional “private dialogue” channels – the Bank of England may not any more rely entirely on a slightly raised Governor’s eyebrow to get its message across, but it still has the ability to take bank chairmen aside and speak plainly to them.  They have worked with financial think tanks to produce reports on sustainability and resilience, on the industry’s response to climate change and on ethical and diversity concerns.  And they have become much more bold in speaking in public on such issues:  Mark Carney, the former governor of the Bank whose term ran until March of this year, was a particularly forceful speaker on climate change, urging the asset management industry in particular to play its part.

In summary, the official sector has been calling for no less than a complete rethink of the main objective of financial services, and the main deliverable.  As one central banker put it at a round-table recently, “We need the industry to pivot from thinking about the word financial to thinking about the word service, and from thinking about efficiency to thinking about resilience” – the second part said with particular feeling as no central banker wants to incur the public wrath that would follow any new need to shore up a failing banking system! [1]

It has, it is fair to say, been a somewhat chastening experience for the central bankers.  The wholesale financial sector has responded relatively well, at least on some issues.  They have worked with the central banks not against them on the extraordinary monetary policy operations of the last 10 years (for example, they have in many countries accepted negative interest rates on their own deposits and resisted passing them on to their customers), they have been pro-active in developing a “green bond” market for raising finance for sustainability projects, and the asset management industry is now finally seized of the need to exercise their custodianship and management of their customers’ assets in an ethical and responsible way.  ESG-based investing has moved over the last 10 years from the outer fringe of the industry to its core, and it is now a central and unavoidable part of managing other people’s money for any serious asset manager.

But the retail banking sector has proved much harder to change.  And the more this goes on, and the more central bankers find their exhortations being ignored, the more it is becoming clear that this is because retail banks still see their industry’s objectives through the lens of what they want to deliver, not through the lens what their customers actually want to receive.

In a nutshell the average consumer of financial services ranks what they want from the financial sector in something like this order.  First and foremost they would like a simple and reliable service, responsive to their needs and good for the planet.  Secondly, they would like it to be reasonably priced, while accepting that this does not mean “bottom dollar” – people are not fools and know that an ultra-cheap service is not likely to be a good one.  And lastly, way down the list, comes any interest in it being clever or innovative.  Retail banking is, after all, at heart a utility industry.

Meanwhile the industry itself focuses on (and therefore spends time and effort on), and prides itself on the same objectives in a rather different order.  A lot of time is spent on clever innovations, because this is both fun to do and makes the banks feel good about themselves, and because it helps differentiate them and their offering from other banks.  Secondly, they like to announce headline low prices, because they think their customers are very price conscious (and won’t notice when the headline low price is recouped with other charges).  Reliability comes next – it is boring and expensive but outages are bad publicity.  And sustainability and preserving the planet comes last, because it is difficult (and anyway, who really cares about this stuff).

Notice anything?  There is a strange disconnect between the two orders of priorities …

This is not exactly complex stuff;  indeed thinking what your customers might need or want and trying to see issues through their eyes is pretty much Business 101.  And in most industries, those that do not do so will soon find themselves out-competed by those that do, and will face an uncertain and probably fairly short future.  In an industry with normal entries and exits, and a normal ability for customers to switch their business, those who routinely put their own interests ahead of their customers’ can expect to lose customers fast and exit the industry completely in due course.

But retail banking is different.  Because of the very high levels of regulation, entry to the industry is difficult.  Establishing a new start-up bank is both complex and time-consuming, and although modern technology has made it very slightly easier (the UK has seen more start-up banks, like Metro Bank, Monzo and Starling, in the last 10 years than it saw in the previous 150), it is still very expensive.  Even when a new bank does start up, it is difficult – and very time consuming – for customers to switch to it.  (Personal anecdote:  I have been trying to move one of my bank accounts since July.  The new account is finally – finally – open, but the switch is even now, 3 months after I started the process, far from complete).

And at the other end of a bank’s life, it is practically impossible for a poor bank to be forced to exit the industry.  Failing banks are supported, or taken over (often not entirely to the advantage of the bank asked to save them!), or in the final resort rescued by public funds, as RBS was 10 years ago.  It is very rare indeed for a retail bank simply to fail, and almost as rare for the management of a failing bank to pay a price for their failure.

The result is that a bank which places an emphasis on good customer service (and they do exist) sees little increase in business or profits, and a bank which chooses not to, which treats its customers with indifference and gives them poor or thoughtless service, sees very little downside, far less risk of going out of business.

We think that ultimately, it is this that has decided the pattern of retail banking.  It is not the lack of real competition in the industry (similar though all the main high street banks are) that matters, so much as the lack of real penalties for those who choose not to compete.  Either for the banks, or, more importantly perhaps, for the people who run them.

The challenge for those in the authorities who wish to shake up this cosy world is to find a way to ensure that the banking system survives and stays sound (which is essential), without at the same time offering a guarantee that every bank however poor will (which is certainly neither essential nor even desirable).

It is not a challenge that they have so far found an answer to.

[1]              This pivot from efficiency to resilience and sustainability is we think the mirror of the commercial world’s realisation that the pursuit of cost efficiency can be overdone, and that just in time delivery from China may be the cheapest way to do things but it leaves one very exposed to disruption.  The financial services sector has twice in 12 years been completely derailed, once by its own failings but the second time by something external, and it is in real need of exactly the same sort of re-examination of its resilience as the commercial and trade world is.