Rivers of Gold – Let’s follow the money
24 April 2018
Hon Kenneth Madison Hayne AC QC
Royal Commission into Misconduct in the Banking,
Superannuation and Financial Services Industry
When an Australian walks into a bank with the intention of taking out a mortgage to buy a home, the bank has a financial incentive to offer the largest loan over the longest period of time that is legally possible.
It is normal practice that throughout the process of obtaining a mortgage to purchase residential property, Australians do not have ready access to how the financial entity will fund their new mortgage.
Just as it is appropriate that Australian consumers purchasing a food item in a supermarket should be able to read a user friendly label listing the ingredients, it is equally appropriate that Australians should have ready access to how a bank intends to fund their individual mortgage.
Paragraph (b) of the letters patent dated 14 December 2017 states;
Whether any conduct, practices, behaviour or business activities by financial services entities fall below community standards and expectations;
The following question falls within the scope of the above term of reference of the current Royal Commission:
Q: Is there information being omitted by financial services entities, that if known by consumers when taking out a new mortgage, could cause those consumers to become dissatisfied to the point of deciding not to take out the loan being offered by the bank?
Let’s say a consumer goes to a bank seeking to borrow $500,000 over a 30 year period with a variable interest rate to purchase a residential property.
If the bank says they will lend the full $500,000 at a variable rate, where $300,000 will come from cash on hand held by depositors with the bank, $100,000 will be borrowed by the bank from an institutional investor in the US with only a 30 day term and the remaining $100,000 will be printed in $100 bills using the banks privately held $100 note printer, would that potentially change the consumer’s decision or preference?
Currently, financial services entities are permitted by Australian law to withhold how they fund new mortgages at a level of detail a consumer can readily access when taking out their mortgage. Yet, failure to reveal funding sources is inadequate disclosure to consumers and induces them to make decisions they may not have made otherwise.
For example, if a consumer who is about to take out a mortgage knew that 20% of the money used to fund that new mortgage will be from short term offshore borrowings (1-3) and the risks associated with that are explained, that an increase in interest rates in the source country could increase the variable rate of interest here, even though our central bank has not changed its monetary policy settings, they may prefer a home loan product that is not funded in part from offshore borrowings.
Equally, if a consumer who is about to take out a mortgage becomes aware that say 20% of the money used to fund that mortgage will be created by the bank on the spot, and that the Australian Government has given that bank the privilege to create that money, the consumer may perceive that to be an injustice and prefer to select a home loan product whereby the bank has not been given the opportunity to create some of that money.
If consumers had ready access to how their next loan is being funded, it may lead to local savings being a preferred funding choice.
If there was a greater reliance on local savings to fund home loans, Australian retirees who are dependent on interest earned in their savings account to fund their retirement would likely benefit from higher interest rates.
Q: Why should Australian retirees be penalised because there is a lack of disclosure between financial services entities and consumers regarding how new loans are funded?
This lack of disclosure between financial services entities is inadequate and satisfies the definition in paragraph (f) of the terms of reference:
the adequacy of:
existing laws and policies of the Commonwealth (taking into account law reforms announced by the Commonwealth Government) relating to the provision of banking, superannuation and financial services; …
Q: Are existing laws adequate when a consumer is unaware that the very act of taking out a mortgage can create new money?
When asked directly (4) about how the money supply in Australia increases each year, the Reserve Bank of Australia (RBA) said it was through a process called “money multiplication” and gave an example whereby “the bank, the person and the business have interacted to create the additional money” (5).
On page one of the letters patent it states:
AND all Australians have the right to be treated honestly and fairly in their dealings with banking, superannuation and financial services providers. The highest standards of conduct are critical to the good governance and corporate culture of those providers.
AND these standards should continue to be complemented by strong regulatory and supervisory frameworks that ensure that all Australian consumers, including business, have confidence and trust in the financial system.
Given the above, it is neither fair nor honest that a bank does not have to inform a prospective borrower how they intend to fund the loan, nor that they may potentially create the money that will be leant to the borrower.
Given that in the correspondence with the RBA above, they stated that “the creation of new money is not directly regulated”, it is clear that the existing regulatory framework does not provide a basis for Australian consumers and retirees to have confidence or trust in the financial system.
- Parliament of Australia, completed enquiries, Senate Standing Committees on Economics, The post-GFC banking sector, Chapter 4, The sources and costs of bank funds post-GFC.
- ‘Big four bank’s reliance on offshore funds rising’ 2017, The Australian, 27 Jan
- ‘Australian banks’ funding mix under the spotlight again’ 2016, The Financial Review, 7 Jan
- Correspondence to the RBA dated 30 April 2012, attached to this letter.
- Correspondence received by the RBA dated 4 June 2012, attached to this letter.