The Australian government will increase its scrutiny of banks in 2025. We believe the government will press lenders to maintain some unprofitable services. But the rating impact should be negligible for banks, given the manageable costs involved.

Politicians are looking at banks to address bread-and-butter issues for households, in our view. These include the cost of servicing mortgages, access to physical bank branches and cash services, transparency on fees, and a general accountability by the industry to the public.

In our view, the government will exert significant political pressure on all banks to pass on interest-rate reductions to mortgage holders in full when the Reserve Bank of Australia (RBA) cuts rates further. Those that don't, risk a backlash from the government and the public, which could dent their reputation and customer loyalty. We assume that banks will delicately manage shareholder interests with the government's socio-political objectives.

Banks Are A Political Football

The colloquial phrase 'fair dinkum'--which signifies authenticity, sincerity, and fairness--is deeply rooted in Australian culture.

Many Australians view the billions in annual profits generated by major banks as excessive. Banks comprise half of the country's top 10 most profitable corporations. Public misgivings about such income typically pick up when households feel the pinch from higher interest rates and a rising cost of living.

This public sentiment inevitably leads to demands on political leaders to advocate for greater customer value in banking.

Strong profitability is a common feature in concentrated banking systems. Australia's major bank profits contribute about 1.72% of Australia's GDP, among the highest such contribution globally.

With risk-adjusted returns between 1.1% and 1.6%, the profitability of Australia's major banks is on par with other oligopolistic banking systems, such as Canada. That comparison does little to deflect the politicking that may flow from public resentment about banks in an election year.

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We believe that the strong profitability of Australian banks enhances financial stability within the industry, which in turn supports the economy. Sound earnings and solid interest margins protect the banking system from unforeseen events, including a significant rise in credit losses during economic downturns. This supports our 'AA-' credit ratings on the Australian major banks.

Heightened competition within banking systems can result in riskier lending practices as financial institutions strive for higher profits, posing potential risks to the overall system. We observed this during the 2008-2009 global financial crisis in the U.S. residential mortgage market.

Public perception is important. The 2017-2019 Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (Royal Commission) showed banks were generating large profits while providing unsatisfactory customer outcomes and charging excessive fees. Such practices put the major banks in the sights of the government.

To foster a positive image and minimize political scrutiny, the major banks now actively engage in soft diplomacy. This includes negotiating moratoriums on regional branch closures, maintaining cash services, establishing financial literacy programs, supporting local community events, and promoting sustainability and environmental initiatives.

Opaque Pricing Practices Leave Customers In The Dark

We believe political pressure on banks to improve transparency in their pricing practices will intensify. This will be particularly true as Australia cuts rates further. Politicians will be closely watching whether banks pass rate cuts in full to borrowers.

The government has recently implemented small measures aimed at helping customers secure better deals. This includes requirements for banks to notify customers of interest-rate changes on transaction and savings accounts, and providing direct access to the necessary forms to exit a mortgage.

Very few borrowers pay headline mortgage rates. Borrowers are generally offered or negotiate a discount from the headline rate both directly with the bank, or through broker origination channels.

Data provided by the big four banks to the Australian Competition and Consumer Commission (ACCC) in 2018 revealed the average rate paid by borrowers was more than 100 basis points (bps) below the headline rate at each major bank. We understand similar discounting practices exist today. Around half of this discrepancy relates to different credit profiles. In some rare instances, discounts are as much as 300bps lower than the headline rate.

The use of discretionary discounts leads to information asymmetry between lenders and borrowers about how prices are determined. The RBA says that banks may discount to reflect a lower risk on a given loan, to capture a loan of a large size, or simply to head off a competing offer from another lender. The ACCC found a lack of easily accessible, transparent pricing information was a barrier to borrowers switching lenders or home loan products, which may cut costs for borrowers.

Intricate pricing structures complicate comparisons. Banks offer a mix of fixed, variable and package loans, each with different features, discount tiers and potential cashback offers. Hidden fees and break costs can further obscure the cost of borrowing. This all adds a layer of complexity, making it challenging for consumers to ascertain the overall value of mortgage products.

Banks Will Be Pushed To Maintain Branch Networks

We expect the government will continue to encourage banks to maintain regional branches. In its final report released in May 2024, the Senate committee investigating bank closures in regional Australia advised the government to recognize access to financial services as an essential service and to ensure reasonable access for all Australians.

The recent agreement between the government and major banks to impose a moratorium on regional bank branch closures until 2027, along with the expansion of Bank@Post Services, demonstrates the government's commitment to preserving access to physical banking in regional Australia.

While these initiatives provide temporary relief, questions linger. Bank@Post cannot fully replace the variety of services offered by traditional branches, and the economic viability of unprofitable regional bank branches remains questionable. For now, banks will need to play ball.

This all comes as banks have been accelerating branch closures, as they look to rationalize their cost bases. More customers are opting for digital channels, either as a matter of preference or because their bank encourages it. The Australian Prudential Regulation Authority's (APRA) Points of Presence Statistics reveal the number of bank branches in Australia has declined nearly 40% since 2017.

We believe major banks will now be more careful about closing branches, to avoid further government scrutiny. Rather than widespread branch closures, major banks may take less overt actions, such as consolidating the services offered at branches, cutting staff or reducing operating hours. Nevertheless, an ongoing consolidation in the mutual banking sector will inevitably lead to more branch closures, in our view.

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As part of the government's approval of Australia and New Zealand Banking Group Ltd.'s (ANZ) acquisition of Suncorp Bank, ANZ agreed to no regional bank branch closures for three years. This applied to both ANZ and Suncorp branches. The government was also in talks with the sector about imposing a rural-bank levy. This would have effectively compelled banks with small or no rural presence, relative to the size of their operations, to subsidize the operations of those with more extensive footprints in these areas. This appears to be off the table for now, as the moratorium on regional branch closures addresses the government's objective for major banks to maintain regional branch networks.

We believe major bank ratings have ample headroom in their credit ratings to absorb the costs of unprofitable branches. Matt Comyn, the chief executive of Commonwealth Bank of Australia (CBA), informed the regional branches inquiry that the bank operates 728 branches and spends about A$1 billion annually on its branch network. This would imply average annual operating branch costs of around A$1.4 million, and the total branch network represents a small fraction of the overall expense base.

Cash May Fade But Won't Disappear

Maintaining cash access has shifted from a focus on profitability, to fulfilling government and customer expectations, in our view. The government's recent initiatives demonstrate its commitment to the physical currency, in our view. Such measures include mandating that all businesses selling essential goods and services accept cash from the start of 2026, and increased funding for Bank@Post services.

Holding cash has increasingly become a financial burden for banks. The costs of ATM maintenance, security, storage, and cash transportation drain their profitability. CBA reported that maintaining cash services cost the bank A$410 million in the last financial year, while generating fees of A$60 million--an overall net loss of A$350 million.

Despite the economic reality, we believe political pressure prevents major banks from simply walking away from cash services. When CBA proposed a A$3 fee to withdraw cash in branches and post offices in December 2024, the bank quickly reversed its decision in response to fierce political and public backlash, and negative media attention.

Over the past 20 years, consumer payment methods have undergone significant changes. According to the RBA's latest Consumer Payments Survey, cash transactions have declined to around 13% of all transactions, from nearly 70% in 2007.

Still, cash remains an important payment method for many Australians. Around 5% of participants in the survey reported they used cash for all their in-person transactions--equivalent to just over 1 million Australians. We believe any decision by a major bank to move away from cash would only be part of a broader conversation on the role of cash in Australia, given the scope and reach of the country's major banks.

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Governance Practices Stronger Following Royal Commission

The Royal Commission marked a pivotal moment of government intervention into banks that highlighted the growing threat of government interference the sector faces. We consider the weaknesses identified--and remedial actions instituted--after the Royal Commission as improving governance standards in the sector.

The Royal Commission exposed widespread system failures in banks' treatment of customers, particularly vulnerable customers. The findings revealed that banks charged customers for financial advice and services that they never rendered, imposed fees on account holders long after their passing, and employed aggressive sales tactics that led to the sale of unsuitable financial products.

Regulators have since taken a more proactive approach. APRA has introduced prudential standards, such as CPS 511 Remuneration, which mandates that banks align their remuneration structures with customer outcomes to prevent aggressive sales tactics.

In August 2024, APRA increased the capital add-on applied to ANZ to A$750 million in response to concerns about nonfinancial risk practices. This followed allegations of misreporting of bond trading data to the Australian Office of Financial Management and reports of poor behavior in the bank's dealing room.

Additionally, many banks have established independent oversight committees and enhanced staff training to better assist vulnerable customers. Australian regulators are also increasingly focused on nonfinancial risks, including cybersecurity and operational resilience.

The ongoing strengthening of regulatory and governance standards led us to revise our institutional framework assessment for the Australian banking industry. Our assessment now reflects the lowest risk level on our scale (see "Banking Industry Country Risk Assessment: Australia," published on RatingsDirect April 21, 2024).

Consequently, we raised our ratings on most of the non-major Australia-based banks as well as all the rated Additional Tier 1 and Tier 2 instruments issued by Australia-based banks and their New Zealand banking subsidiaries.

New Remuneration Regime Is Significant

We believe the new deferred remuneration obligations introduced under the Financial Accountability Regime (FAR) are among the most significant changes enhancing accountability. By requiring 40% of executive bonuses to be deferred for four years, Australia aligned with international peers such as the EU, the U.K., and the U.S., which have similar deferred remuneration regimes. This approach adds personal accountability, as executive compensation is directly tied to good governance and financial stability.

These deferred remuneration clauses help to manage moral hazard, where executives might engage in risky behavior for immediate rewards. By delaying bonuses, FAR incentivizes executives to weigh the long-term consequences of their decisions.

Safeguarding Trust

The evolving political landscape serves as a reminder for Australian banks to preserve their social license. By engaging with stakeholders, and addressing customer expectations, banks can build trust and mitigate the impact of adverse government interventions.

Editor: Jasper Moiseiwitsch

Digital Designer: Evy Cheung

Related Research

• Banking Industry Country Risk Assessment: Australia, April 21, 2024