Review of barriers to entry, expansion and exit in retail banking

Start date: 26 May 2010
End date: 4 November 2010

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Purpose of the review

The purpose of the review was to assist the OFT and others in understanding better barriers to entry, expansion and exit in both personal and SME (defined as firms with annual turnover of up to £25 million) banking markets, and in understanding the long term competitiveness of the retail banking sector.

The review was intended to help the OFT and others in:

• contributing to relevant reviews or other work undertaken by the Government or other bodies such as those by the Independent Commission on Banking (ICB), Treasury Select Committee and Scottish Government
• assessing and informing options for change in the regulatory framework for retail banking
• assessing any relevant mergers that may arise in the banking sector, including any arising from divestments under European Commission (EC) State aid requirements
• understanding the choices facing the Government over the sale of banking assets, between the impact on competition and other public policy goals, such as maximising value, and
• determining future Government and OFT work priorities in retail banking.

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Findings

The review focused on the provision of retail banking services to individuals ('personal banking') and SMEs ('SME banking') and covered four key themes - regulation, access to essential inputs needed to offer retail banking services, the ability of new entrants to attract customers and achieve scale and barriers to exit.

While the review found that most prospective entrants are able to meet regulatory requirements, and source the necessary inputs to offer retail banking services, new providers face difficulties in attracting customers and expanding market share. This is because of the reluctance of personal and small business customers to switch providers, their loyalty to established brands, and preference for banks with a local branch. This was most marked for personal and business current account customers, whereas personal customers were more likely to shop around for loan products.

The other major findings were that:

• Some firms reported problems around the process of becoming authorised by the FSA to accept deposits, with a lack of transparency and uncertainty causing delays and difficulties in raising funds. The FSA has recently revised its authorisation process and this should lead to greater transparency and certainty. 
• Existing capital requirements may disproportionately affect new entrants and smaller banks by requiring them to hold proportionally more capital than incumbents. As capital and liquidity requirements are updated, it may be appropriate for the prudential regulators to consider and monitor their impact on competition. 
• Entering the market involves significant IT investment, often in the form of sunk costs, which can account for up to two-thirds of start-up costs. This makes it all the more important for firms to be able to grow quickly, to spread those costs over a larger customer base. 
• New entrants are able to access industry-wide payment schemes such as CHAPS and BACS, and information on personal and SME customer risk profiles is widely available. However, credit risk information about micro-enterprises is limited, which may make it harder for new banks to lend to the smallest firms. 
• Following the financial crisis, the ability of some firms to expand could be constrained by the current lack of interbank lending. 
• There is no evidence to suggest that the regulatory framework dealing with how a failing bank exits the sector prevents inefficient firms leaving the market, but the OFT encourages the authorities to give due consideration to competition issues when these arrangements are operated.

The review also explored whether there are specific issues around barriers to entry, expansion and exit in England, Scotland, Northern Ireland and Wales. While the review did not find significant differences in relation to most of the themes covered, it did find that brand loyalty to incumbent national brands in Scotland and Northern Ireland may be greater than elsewhere in the UK and that new entrants' choice of location is largely driven by the size of the potential customer base, with highly populated urban areas seen as more attractive than rural areas.

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Review documents

• Download OFT1282 Review of barriers to entry, expansion and exit in retail banking (pdf 1.8Mb)
• Read the press release OFT publishes review of barriers to entry in retail banking (4 November 2010)
• Read the Q&As 

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Related documents

• Download the call for evidence document (pdf 534kb)
• Download the questionnaire sent to established banks (pdf 184kb)
• Download the questionnaire sent to new banks or potential entrants (pdf 194kb)
• Read the press release OFT launches review of barriers to entry, expansion and exit in retail banking (26 May 2010)

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Contacts

The team leader for the review is Haris Irshad (haris.irshad@oft.gsi.gov.uk) 0207 211 8389.
The project director is Claire Hart (claire.hart@oft.gsi.gov.uk) 0207 211 8782.
The senior responsible officer is Clive Maxwell (clive.maxwell@oft.gsi.gov.uk) 0207 211 8950.

Any media enquiries should be directed to a member of our Press Office.

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