Last year we wrote about the dreadful way in which the pillars of the Australian banking system had been exploiting their trusting customers over many years. Eventually pressure to appoint an industry-wide enquiry became impossible for the government to resist, and a Royal Commission was established with a brief to look into misconduct in the banking, superannuation and financial services industry. A year on from the publication of Commissioner Kenneth Hayne’s Final Report, it seemed appropriate to look at the effect of his recommendations, and to think about how the Coronavirus epidemic, rampant at the time of writing, might create its own impact.
The approach taken by Mr Hayne, a former Justice of the Australian High Court, was that of a lawyer rather than that of a forensic accountant. He traced the development of the laws and regulations governing banking, insurance, superannuation and financial services generally, and spelled out what the aims were. He then described how the various bodies set up to administer these laws and regulations were expected to carry out their duties and fulfil the expectations vested in them.
He set out six basic principles regarding norms of conduct for the financial services industry in his Interim Report, repeated at the beginning of his Final Report, and which are worth stating here:
- obey the law
- do not mislead or deceive
- act fairly
- provide services that are fit for purpose
- deliver services with reasonable care and skill
- when acting for another, act in the best interests of that other.
His reactions to the evidence emerging from the various hearings and data gatherings came across as astonishment, horror and contempt at the management that permitted such misconduct to grow and spread through an entire industry, and what amounted to regulatory capture that failed to expose and punish it.
His opening observations indicate his moral disgust at how his six principles of social norms of conduct had been breached across the industry. The gist was:
- misconduct generally arose because of incentives which rewarded conduct aimed at producing sales regardless of whether that conduct was improper
- entities and individuals behaved that way because they could get away with it
- consumers often dealt with providers through a trusted intermediary, whose personal interest, in practice, invariably over-rode that of the consumer
- the regulators totally failed to control, let alone stamp out such misconduct.
Particular themes emerged in Mr Hayne’s conclusions:
- every part of the financial services industry showed examples where management had introduced incentives which cascaded down from the top executives to junior sales people, aimed at driving sales and profit
- whereas there were measurement systems in place to track the effectiveness of incentives in driving sales, there were no equivalent systems in place to pick up behaviour which was likely to damage the interests of customers, or, for that matter, the entity’s own long-term financial or reputational well-being; the lack of provision of such information to boards was not seen as important by those boards
- conflicts of interest, particularly in regard to financial advice, were endemic, a fact frequently recognised by both management and regulators; however, the belief that these conflicts could be managed, a view shared by management and regulators, had, in his view, been comprehensively proved to be wrong; they could never be managed
- the conduct regulator, ASIC, had apparently come to the conclusion that, with limited resources, it should avoid court cases, and instead focus on remediation; the prudential regulator, APRA, avoided public exposure of any issues it had with providers in case publicity itself damaged the financial position of the entity concerned and the industry in general.
Mr Hayne’s recommendations avoided directly attacking the industry structure generally, apart from strongly advocating the separation of provision of advice from product sales, which has subsequently led to a wholesale hiving-off of these functions. His proposals have been essentially directed at trying to ensure that entities behave in accordance with his six principles, and that the regulators are much tougher in publicly calling them out for misconduct, and punishing them. So, a focus on culture, governance and remuneration systems is how he structures his recommendations, together with telling the regulators that their primary task is to ensure that the laws for which they are responsible are obeyed, and transgressions are publicised and suitably punished. For instance, he quotes the case of AAI, an insurance subsidiary of Suncorp Group, which paid A$43,000 fines for four infringement notices for misleading advertising, in relation to which it generated premium income of A$426 million for the relevant year.
Mr Haynes makes very clear his view that, notwithstanding his criticisms of the regulators, the primary responsibility for misconduct in the financial services industry lies with the managements of the companies concerned. And given the widespread and endemic nature of the misconduct, one would expect heads to roll after publication of such a damning report. So what has happened since the Commission started its work, in terms of management changes in the big five players, and perceived changes in corporate behaviour generally?
Shayne Elliott, appointed CEO in 2016, is the only one to survive of the CEOs of the big 4 + 1 in place when the Commission started its work. However, in June 2019, the CEO of the New Zealand division, David Hisco, stepped down following questions over his business expenses, particularly relating to a chauffeured car, and wine storage costs.
In August 2019, ANZ abolished individual performance bonuses for most staff (but not the Executive Committee).
The money laundering scandal at CBA cost the job of CEO, Ian Narev, who, in August 2017, announced he would step down, to be replaced in 2018 by Matt Comyn. In the same reshuffle, new chair Catherine Livingstone, was appointed in 2017, only to be severely criticised by the Commission enquiry for her failure to make public the refusal of her predecessor to repay part of his remuneration, as she had requested.
CBA paid a A$700million fine in respect of its money laundering offences. Subsequently, in 2019, criminal charges were brought against CBA by ASIC in respect of unlawfully sold life insurance policies by Comminsure, an insurance subsidiary it had subsequently divested.
The CEO, Andrew Thorburn, stepped down in February 2019, shortly after publication of the Final Report. The Chairman Ken Henry said that he would step down soon after, and Ross McEwan, ex CEO of RBS, took over as CEO in December 2019.
NAB has set aside A$2.1bn for compensation to customers.
In August 2019, it was announced that ASIC was suing National Australia Bank over a loan scheme that was worth $24 billion to the bank, and exposed customers and the bank to potential fraud. There was a potential fine of A$500m.
In November 2019, despite his expressed determination to stay on, the CEO, Brian Hartzer, was ousted by investor pressure on the Board over its own money laundering scandal and a decision by AUSTRAC to take legal action because they hadn’t yet put in place corrective mechanisms. It was the second money laundering scandal in two years after the earlier CBA disaster. The Chairman, Lindsay Maxsted also said he would retire early, and was replaced on 2 April 2020 by John McFarlane, ex-Chairman of Barclays Bank. And the chair of the Risk Committee said he would not stand again when his re-election came up.
In November 2019, David Morgan, former CEO, said about the enquiry into home loan pricing and failure to pass on interest rate cuts, that this sort of intervention could have severe consequences for profitability, and unprofitable banks were a worse thing than profitable ones.
In April 2018, Craig Mellor, the CEO, and Catherine Brenner, AMP’s Chair, both resigned. A subsequent estimate from the interim CEO, in evidence to the Royal Commission, suggested that the ultimate cost could be A$1.1 billion.
In May 2019, the recently-installed new chairman, David Murray, told the meeting that AMP had failed its shareholders, employees and financial advisers after disastrous criticism by the Royal Commission in the previous year that saw huge withdrawals of customers’ savings.
By the end of 2019, the regulators were seen as starting to take firmer action against misconduct in financial services. For instance, APRA was using BEAR (Banking Executive Accountability Regime) to go after Westpac, and ASIC was going after a subsidiary of TAL Life, a subsidiary of Dai-ichi Life. However, ASIC, having imposed additional capital requirements of A$1 billion on Westpac, lost its case over Westpac using HEM living costs as a benchmark in lending decisions,
The recent global spread of the covid-19 virus is having a devastating effect on economies world-wide, and the ultimate impact is likely to be very severe. Banks around the world have a dreadful reputation following the Crash of 2008, albeit Australia’s banks acquired their dire reputation later, for rather different reasons. So there is an opportunity now for them to redeem themselves to an extent in the eyes of the public and governments by the way in which they respond to the needs of Australia in the months to come.
The headlines so far indicate relief packages for small business, deferment of mortgage payments, and consideration of reducing interest rates on credit card balances. On the other hand, credit rating agency Moody’s downgraded its outlook for Australia’s banking system from stable to negative in April, and the Central Bank expressed its concern about the likelihood of a big contraction in the economy.
What happens next
So, notwithstanding APRA softening its capital requirements and the government promising significant fiscal action, the pressure on the banks’ customers, and hence on the banks’ own financial health, is likely to escalate rapidly.
What will that do to the banks’ willingness, or even their ability, to be generous towards their customers, and hence build a store of goodwill to offset the dire outcome of the Royal Commission enquiry?
The remarks of Mr Morgan (ex-CEO of Westpac) about adverse effects of the new rulings on bank profitability, and similar criticisms by Mr Murray (recently appointed chairman of AMP) about the potential elimination of the provision of essential financial advice resulting from the Commission’s recommendations, make one wonder how much attitudes have really changed. Consider how the US banks lobbied for relaxation of post-Crash regulation once sufficient time had passed and the political climate had changed.
Again, we return to our long-standing argument that the only way to achieve permanent alteration in behaviour is to define appropriate metrics and then to measure performance against these metrics on a regular basis, with the objective of achieving steady improvement. And, notwithstanding Mr Hayne’s view that these soft aspects of culture can’t be measured, we would beg to disagree, having installed just such measures with clients in the past.
In the absence of such measures, the cynic would say that human nature doesn’t change. So exhortations by external authorities for culture change and promises by managements to change culture for the better, will be, as Roman poet Catullus said about expressions of undying love, like promises written on the wind and in the fast flowing stream.