1. This paper presents the Consumer Council views in response to the report entitled "Hong Kong Banking into the New Millennium - Hong Kong Banking Sector Consultancy Study" commissioned by the HKMA. The Council has limited its response to those recommendations that directly address consumer protection and competitiveness in the banking sector.
The Three-Tier System
２. In view of the blurring of financial markets, the Council concurs with a need for consolidation of the tiered system. Retaining a distinction between banks and Restricted Licence Banks (RLBs) for the purpose of allowing new participants who may not be fully qualified as a bank to enter the market, albeit at a restricted level, could be appropriate. However, any diminution of safeguards that arose from the distinction, should be made apparent to consumers.
3. A question arises as to how the HKMA will attend to the existing Deposit-Taking Companies (DTCs) licence holders. If they do not opt for an upgrade of licence, simply revoking their DTCs licences will render them becoming unregulated finance companies. The HKMA may need to consider the degree of risk, and what safeguards should be put in place, in relation to the elimination of the DTCs category.
4. At present, both RLBs and DTCs are not permitted access to the Real Time Gross Settlement (RTGS) interbank payment system which may place them at a competitive disadvantage. The Council therefore supports the consultants' recommendation that a more appropriate means of defining access criteria of the RTGS should be considered.
The One-Building Condition
5. As noted in the Consultancy Report, only very few foreign banks indicated they would increase their branch network if the one-building condition was to be relaxed. This seems to suggest that the majority of foreign banks have achieved a desirable level of competition without having to invest in more than one branch. It therefore appears that there is little threat of instability that competition through the development of branch networks is supposed to induce. It follows therefore, that there is no reason for the branch restriction to remain. Removal of the restriction would provide a level playing field for all market participants and it would allow banks to have flexibility in determining their level of investment in a branch network, versus other product delivery channels.
6. Nevertheless, the Council accepts that a phasing-in approach on the relaxation of the branch restriction may be appropriate for trade policy reasons as other jurisdictions have imposed restrictions on the scope of operations for foreign banks.
Depositor Protection
7. The Council welcomes the proposed study into establishing a depositor protection scheme. It is to be hoped that the results of this study will advance the limited protection currently available to Hong Kong consumers. The HKMA is especially alerted to look into the potential problems of moral hazard and cross subsidisation in a depositor insurance scheme, and the fact that the costs of any scheme will be ultimately borne by consumers. The Council therefore urges the HKMA to provide a detailed analysis on the cost implications of any proposed depositor insurance scheme in its feasibility study.
8. The suggestion on proposing to enhance the existing priority payment scheme, by introducing a mechanism whereby depositors would be able to get immediate pay-out, rather than having to wait for the full process of liquidation, deserves merit. This may hopefully alleviate the propensity of depositors to cause a run on their banks in case of rumors.
9. The Council also supports the idea of improving the effectiveness of the priority payment scheme by requiring foreign branch banks to maintain sufficient assets to meet priority claims. By doing so, it would provide better protection for consumers who deposit their money in foreign branch banks.
Interest Rate Rules
10. The Council supports the full deregulation of interest rates and queries whether there is in fact a justifiable concern that deregulation of the remaining Interest Rate Rules (time deposits up to 6 days, current and savings accounts) would have serious consequences to banking stability. It is noted that in the Report few institutions viewed further deregulation as an opportunity, and only 17% considered that they would be able to attract new deposits in such an environment.
11. The Council has also taken the view that further deregulation is not likely to cause massive transfer of deposits between institutions. Short-term time deposits up to 6-days, only account for a small balance (i.e. about 0.3% of total IRR deposits). Also, with the advent of electronic banking, depositors can easily operate a sweep arrangement (albeit not automatically) to transfer funds to current accounts to match cheque payments. Current account deposits represent only funds-in-transit. It is also not certain that depositors will readily switch between banks in search of higher interest rates to place savings deposits, which in practice, are more or less a substitute for ready cash. Further, whilst the aggregate of savings deposits may be large, the average balance per depositor is likely to be small.
12. In addition, the consultants acknowledged they have not taken into consideration how banks might pass on the higher cost of funds to preserve net interest margins, nor ascertained other income generating strategies that banks might deploy to compensate for some of the increase in interest expense. The concern over increased interest expense and decline in profitability (therefore increasing potential systemic risk) upon full deregulation of the IRRs, may therefore be overstated.
13. With regard to the consultants' recommendation of placing an "agreed" interest rate cap on current accounts, the Council believes that there is no compelling reason to impose any restriction on current accounts. The interest level should be left to arbitrage in the marketplace.
14. The Council notes that the consultants have recommended that further deregulation should be introduced after a specific period of stability, characterised by relative containment of risk. The Consultancy Report indicated that containment of risk could be measured using a wide range of monetary, financial and market indicators. It is not clear whether any weighting will be given to one or other of the specific indicators as exerting a major influence in determining further deregulation. The Council would stress that the triggers for deregulation should not be tied to individual banks' performance but should take an overall market perspective. This is to avoid the distortion that would occur in using the performance of less efficient banks, within any benchmark indicator, where profitability is supported by the existence of a competitive restriction such as the IRRs.
15. The Council therefore recommends that the indicators should be clearly defined and the assessment results made known to the public. This will provide an element of transparency and certainty to the process.
Other Comments
16. In addition to addressing the above areas in the response, the Council raises two concerns for the HKMA's consideration.
Possible Future Acquisitions
17. As a result of increased competition in the banking sector, there may be a consolidation of the number of institutions with some acquisitions or mergers taking place. The current HKMA Guideline on "Mergers, takeovers or restructuring of authorised institutions" does not have a test that provides for the HKMA to assess the anti-competitive risks in acquisitions and mergers. In other jurisdictions that have general competition law, mergers or acquisitions are not approved if they have the effect or likely effect of substantially lessening competition, or where they could lead to a position of dominance. The Council recommends that the HKMA Guideline should have provision enabling the HKMA to assess any takeovers or restructuring on the basis of a clearly defined competition test.
General Competition Oversight and Consumer Protection
18. While the Consultancy Report made a series of recommendations enhancing competition, it does not address the issue of regulatory measures on competition. Neither did it raise the issue of consumer protection in relation to unfair trading practices in the banking sector. The Council therefore recommends that (in the absence of general legislative provisions - which are the Council's first preference) at the very least some self-regulatory mechanisms should be used to enhance competitiveness and consumer safeguards in the banking sector.
19. The Council is pleased to note that the current 'Code of Banking Practice' does reflect some of the principles and provisions in relation to consumer protection. However, the Code does not address the issue of competition. The Council recommends that in keeping with the Government's intentions to promote competition through self-regulation, the 'Code of Banking Practice' should address that issue.
