The sense of dread at the top echelons of the country’s banks only deepened this week when shadow Treasurer Chris Bowen pledged that a Labor government would seek to carry out all the recommendations of the banking royal commission, a move which increased the pressure on the Morrison government to follow suit. Even the dimmest banker realises that the political climate has now changed and they can no longer hope for special indulgence from Canberra.
Hot seats at top of NAB
The speculation, however, spreads beyond the report itself. One of the hottest subjects of gossip over the sweltering summer has been the National Australia Bank, and particularly the interlinked fates of its chairman Ken Henry, and its chief executive Andrew Thorburn. After the bruising the Melbourne-based bank suffered during the commission’s hearings, surely the NAB must undergo the same complete corporate catharsis that the AMP and the Commonwealth Bank have already undergone.
People who know Ken Henry report that the NAB chairman is far from enjoying life at present and is openly wondering why he is still in the financial services industry.
It’s little wonder. Not only was Henry widely attacked for his contumelious attitude he demonstrated when he was called to give evidence at the royal commission, but the NAB board was forced to scrap its executive pay structure after suffering the largest protest vote in Australian corporate history against management remuneration at a blue-chip company.
It’s a galling position for Henry, a former head of Treasury and the hero of the financial crisis, to find himself in. Had things worked out otherwise, Henry might have looked forward to capping off his three-year tenure as NAB chairman with a prestigious and high-profile position, such as chairman of the Future Fund.
If Henry is looking for support from his fellow bank chairs, however, he’ll be disappointed. Top bank executives recall with some bitterness that, at a time they were trying to stave off a royal commission, both Henry and NAB’s chief customer officer, Mike Baird, were very supportive of the idea. Indeed, it was Henry who was the main driver of the letter sent to the Treasurer, which was signed by the chairmen and chief executives of the big four banks, and which conceded that a royal commission was necessary to restore public faith in the financial system.
Some have speculated there are several highly-regarded individuals on the NAB board – especially Phil Chronican and Ann Sherry – who could easily step into the chairman’s role.
But the counter-argument is that Henry will undoubtedly want to leave the position with dignity. What’s more, there’s now a major question mark over how long NAB’s chief executive, Andrew Thorburn, will remain in his post.
Late last year NAB stunned corporate Australia by revealing that Thorburn would take annual leave, return to work ahead of the Hayne royal commission’s final report, before then taking a further month of long service leave.
“This is not one of those jobs where you have the luxury of taking long service leave,” one of the country’s most highly-regarded chairmen noted drily.
Other leading bankers pointed out that Thorburn’s decision to take extra leave, at such a sensitive time for the bank, was dangerous, because it could lead to speculation that he lacked the emotional fortitude to handle the pressure.
But the undeniable schadenfreude that top bankers feel as they contemplate the NAB’s woes is perhaps helping them to cope with their own mounting dread as they count down the days until Commissioner Hayne’s final report is released.
Plenty of cause for anxiety
There’s a lot to be anxious about.
Uppermost in bankers’ minds is what recommendations will be made about banker remuneration.
In his interim report, Commissioner Hayne made it clear that he believed that the near-universal practice of paying bonuses depending on the size of the revenue they generated was at the root of much of the misbehaviour in the financial sector.
“All the conduct identified and criticised in this report was conduct that provided a financial benefit to the individuals and entities concerned,” he said. “If there are exceptions, they are immaterial. For individuals, the conduct resulted in being paid more. For entities, the conduct resulted in greater profit.”
Faced with this powerful drive for ever-larger profits and bonuses, the internal controls of financial organisations proved impotent. “The governance and risk management practices of the entities did not prevent the conduct occurring,” Commissioner Hayne noted.
But the country’s top bankers point out that there are different ways for the commissioner to attack the issue of remuneration.
One would be to set quantitative limits on the size of bonuses bankers are allowed to pocket each year. This approach – which would be similar to the “salary cap” that top sportspeople face – is unlikely to have too harmful an effect in banks’ domestic operations, because all banks would be subject to the same rules.
But it would create major headaches for those institutions which have major international operations, and which have to compete for talent in major financial markets, such as New York and London. It would be extremely awkward if banks paid their offshore employees bigger bonuses than those given to local staff, particularly if those working offshore are reporting to senior Australian management.
Likely focus on procedural issues
That type of scenario makes it more likely that, instead of setting strict caps on remuneration, Commissioner Hayne will focus on the procedural issues – such as making sure that banks’ boards and remuneration committees use proper diligence when it comes to assessing the size of bonuses for senior executives.
It’s also highly likely that Commissioner Hayne will emphasise that bonuses should not be treated as an automatic entitlement, and that senior bankers should face a real prospect of having their incentive payments cut, or even scrapped entirely, if they fail to meet expectations.
The financial services industry is also waiting with baited breath to see Commissioner Hayne’s recommendations on “vertical integration” – where financial institutions design and create financial products which are then distributed to customers through financial advice or sales.
As Commissioner Hayne pointed out in his interim report, this structure creates an inescapable conflict for financial advisers – between pursuing their own financial interests and meeting their obligation to act in the best interests of their clients. “The choice between interest and duty is resolved, more often than not, in favour of self-interest,” he observed.
Top bankers argue the issue is extremely complex. They concede it’s unrealistic to expect that financial planners who work for an institution that creates products will ignore the obvious financial benefits of flogging the home brand and instead recommend products made by other financial institutions.
But they also point out that, if the large vertically-integrated firms such as AMP are forcibly broken up, it’s far from clear that consumers would be better off getting financial advice from small independent financial advisers, who will lack the financial resources to compensate clients for poor financial advice.
Cost of financial advice question
There’s also the question of the cost of financial advice, particularly since most people are unwilling to fork out large sums.
In an interview with The Australian Financial Review last month, AMP chairman David Murray said that, if Commissioner Hayne does recommend a ban on the vertically-integrated business model, “my major concern [would be] how people in Australia will get reliable, affordable financial advice”.
Bankers are also anxious about how Commissioner Hayne will approach the thorny question of mortgage brokers.
There’s an almost universal expectation that his final report will recommend that mortgage brokers – who are involved in more than half of all the residential home loans in Australia – should have a “best interests” duty, and that trailing commissions on home loans should be abolished.
A far more difficult issue is whether Commissioner Hayne will require that, in the interests of transparency, mortgage brokers should charge an upfront fee for their services.
Some bankers warn that such a recommendation would hugely advantage Commonwealth Bank and Westpac as customers, who are wary of paying the upfront fee, instead flood into their branches. This would further diminish competition in the banking market.
But others argue that such fears are overstated and that many people would still be willing to pay mortgage brokers to assist them to identify the best home loan product for them.
As bankers await the final verdict on their industry they are taking solace in one idea: Commissioner Hayne’s year-long and forensic examination of their industry will have persuaded him that bankers, if nothing else, have a deep-rooted, almost Pavlovian, response to incentives.
And Commissioner Hayne will be keeping this in mind as he formulates his final recommendations. He’ll know that if he goes too far in tightening the rules around “responsible lending”, say for small business loans, banks will pull back from the market, jeopardising the health of the overall economy.