Open banking as a way to break out of bank customer lock-in

Bank profits have been in the spotlight this week (for example, see this story from Stuff from earlier this week). Banks are wildly more profitable in New Zealand than in comparable countries, and have been for many years (see here and here). If banks are more profitable here than they are elsewhere, that must be making bank customers worse off than those same customers would be in other countries.

The whole discussion about bank profitability has me a little confused. What exactly is Kiwibank doing? If the foreign-owned banks are milking their customers for excess profits (as many people claim), then why isn't Kiwibank simply undercutting their mortgage rates and fees, and paying higher deposit rates, and taking their customers away? Looking at mortgage rates as of today, Kiwibank and ANZ have essentially the same rates. I'm sure that ANZ isn't cross-subsidising its New Zealand mortgage rates from elsewhere, because if they were, their profits wouldn't be so high. If we want an inquiry into banking, we should be looking at how Kiwibank is failing to create more competition in retail banking.

Anyway, coming back to the discussions on bank profitability, one of the things that has arisen in these discussions is the idea of 'open banking'. I've seen various definitions of open banking in recent years (and there is a good explainer on The Conversation). However, one aspect of open banking that some commentators have focused on is bank account portability - the ability for bank customers to shift from one bank to another, without having to change their bank account number (in the same way that customers can change mobile phone providers, without changing their phone number).

Bank account portability is probably not a silver bullet for high bank profits, but it might help to explain at least some of the high bank profitability in New Zealand. To see why, let's consider what happens when there is no bank account portability (as is the case right now).

When there is no bank account portability, then it becomes costly for bank customers to switch banks. The cost is not monetary though. It is the time and inconvenience of switching over all automatic payments, direct debits, and so on to a new bank account number. Economists refer to those costs as switching costs. When switching costs are high, customers become locked in to a longer-term relationship with the seller (in this case, their bank). Customer lock-in is very profitable situation for a seller, because it means that they can increase prices without their customers leaving. In the case of banks, a lack of bank account portability locks customers into their current bank, and means that banks can raise mortgage rates (and reduce deposit rates) without losing their customers.

If bank account portability was introduced, then bank customers would no longer be locked in to the relationship with their current bank (or, at least, not to the same extent - there is still some time cost associated with changing banks, even if you can take your existing account numbers with you). Banks would then have to compete for new customers, rather than relying on milking their current locked-in customer base for profits.

If we want to improve the situation for bank customers in New Zealand (and reduce bank profits as a consequence), then open banking (and bank account portability specifically) is likely to be part of the solution. It works for mobile phones. It should work for bank accounts as well.