Australia's major banks, the Commonwealth, Westpac, NAB and ANZ, have been a bulwark against the global financial crisis that engulfed housing markets in the US and Britain. But what will things be like post-crisis for Australia's mortgage borrowers?
Some, including the six economists who wrote to the Rudd government last month calling for a Wallis-style inquiry into the financial system and the Australian Competition and Consumer Commission head Graeme Samuel, are alarmed by the sharp reduction of competition in our banking sector as a result of the financial crisis.
This competition came from financial deregulation, as the RBA explained in its submission to a parliamentary committee inquiry into competition in the banking and non-bank sectors last year. Pointing to the strong competitive pressures in the mortgage market over the past decade, the submission noted that lending margins had fallen significantly and the variety and flexibility of mortgage products on offer was high by world standards.
A big source of this competition in Australia's retail banking over the decade was the entry of new players, including foreign banks and mortgage securitisers and brokers, as well as regional banks. But since the financial crisis many of these new players have had difficulty getting funds.
The resulting contraction in their lending activities, their takeover or withdrawal from the market, and the closing down of the residential mortgage backed securities market, on which many depended for their funding, is behind the fears about lack of competition and various suggestions about how to restore it.
A leading protagonist in calls for government intervention is economist Christopher Joye, who was active in instigating the six economists' letter to the government. Joye, who used to work at the RBA, has done valuable work on the housing market and its financing and now provides quality data on house prices through his research and investment firm Rismark.
He wants the government to follow Canada's example and provide guarantees for issues of residential mortgage backed securities, which underwrite the mortgage lending activities of many of the new competitors to the big four that emerged after deregulation.
It would take most of this column to explain the details of the Canadian system, but it doesn't seem to offer an obvious answer to the competition problem. It has introduced distortions of its own into the mortgage market in Canada, and Canada and Australia have enjoyed similar growth in home lending under their different approaches.
Nor has the demise of the big banks' smaller competitors led to higher bank loan margins on mortgages or a shortage of home loans, according to RBA research. And the problem loans that have emerged in areas such as western Sydney are largely loans made by the non-bank lenders.
The reality is that many of the competitive players who emerged over the past decade or so had a business model postulated on the continuation of a golden age of very cheap money and unsustainably low margins for risk.
Between 2001 and 2007 securitised home loans in Australia expanded at an average annual rate of about 30 per cent, a rate that simply could not be repeated year after year even without the financial crisis.
These good times are not coming back, but the RBA is almost certainly correct when it argues that competitors to the big banks will return to the home lending market when financial markets stabilise and government interventions in the bank deposit and wholesale funding markets are unwound. The innovations and improvements in mortgage lending and financial markets more generally are unlikely to be reversed.
The big banks' competitors will have to operate in a market where their funding will be more expensive and their lending activities more closely scrutinised. But the big banks will face changed circumstances as well.
There is no doubt the banks are a privileged group because they are the core of the financial system. They operate what amounts to a government-supported Ponzi scheme: borrowing short and lending long.
They can only get away with this as long as depositors and investors have confidence their money is safe, and in the case of banks this confidence ultimately depends on explicit or implicit government guarantees. After the global financial crisis they are going to have to pay more for this privilege via such things as increased capital ratios and obligations to raise more of their funding in longer-term markets.
This will increase their funding costs, and in theory this should be reflected in lower returns to shareholders. In reality it will be borne by their customers, including mortgage borrowers.
But Australian households, unlike those in the US and Britain, will have avoided a housing price collapse and will still have access to affordable housing loans, albeit not at interest rates set to cope with a global financial crisis.
