Jan Keil | Competition in the Jamaican banking sector
There has been some debate about competition in the Jamaican banking sector. A good start is to look at profitability. Persistently high returns are one indicator of insufficient competition and abuse of market power.
Goldman Sachs in the United States is the traditional industry benchmark of bank profitability, primarily engaging in risky investment banking ventures. Annual reports of the two large Jamaican banks, National Commercial Bank Jamaica and Scotiabank Jamaica, reported higher returns on investment and higher returns on equity than Goldman Sachs did for every single year over the past decade.
The presence of high profitability alone could also be a reward for something very desirably: superior cost control and service quality. However, service quality cannot explain Jamaica's exceptional bank profitability.
In international comparison, the quality of banking services is noticeably low. There is a general lack of ease, swiftness or even availability of many basic banking services. Waiting times at branches are long compared to North America and Europe. I waited myself for 30 days until a US-dollar cheque appeared on my JMD account; one institute was unable to transfer money to one of the 10 largest European banks; and multiple times I had to physically carry funds from one branch to another.
Superior cost control cannot be the explanation for spectacular bank profits, either. It is just the opposite. Compared to other countries, we have high fees and exorbitant interest rate spreads, that is, the difference between interest paid by the bank on customer's savings and what it charges on loans. For commercial banks, the spread was persistently at about 16 percentage points, according to central bank numbers prior to 2017. All interest rates have come down recently. In Europe, the spread is often as low as 0.5 percentage point.
Size disadvantages cannot explain these high costs. Countries like Germany have systems dominated by significantly smaller locally operating cooperative and public savings banks, while offering some of the lowest banking costs worldwide. Scotiabank, Citi, CIBC, JMMB Group and Sagicor are either multinational corporations or internationally active and should be able to take advantage of their size.
The alternative explanation is market power abuse. Economists measure how much an industry is dominated by a small number of large players using the 'Herfindahl Index'. A higher number implies more concentration.
American antitrust authorities at the US Department of Justice and the Federal Trade Commission consider any number greater than 1,800 on the index as problematic and "highly concentrated". To prevent anti-competitive effects, they attempt to block any merger in such industries.
For Jamaican commercial bank branches, excluding JN Bank, the number is a staggering 3,800. Almost 75 per cent of all deposits in private commercial bank accounts are controlled by the largest two players. For comparison, this value is just over 20 per cent in the United States.
According to antitrust authorities around the world, the likelihood of market power abuse is very high at such extreme levels of concentration.
In addition, there are competition-impeding effects of cross-shareholdings. At most annual meetings, only a fraction of owners is present, allowing large shareholders to exercise control over management. Accordingly, 25 per cent is already a threshold for reporting to regulators in some countries. Much smaller investments of about five per cent are considered 'strategic'.
Newspapers frequently mention how acquirers use such investments to 'open doors' to suppliers, customers, or joint ventures. In any case, if A buys shares in B, then A will hurt itself when competing aggressively against B. More competition lowers B's profitability, reducing B's company value, which is a loss in A's investment in B. NCB owned more than a quarter of JMMB shares, but reduced its holdings in September and now owns 20 per cent. Would NCB support JMMB's management in pursuing an aggressive price competition against themselves? They are very unlikely to engage in intense competition.
Looking at the big picture, a lack of competition is the best explanation for Jamaica's high bank profitability. It can also explain low bank service quality and high banking costs, since firms become less efficient without competitive pressure.
So how can competition be enforced? Transparency helps. Banks could be required to have simple and concise regulator-designed fee and cost tables in branches and on websites. They could list all comparable banking products of all banks with respective fees and average interest rates on loans and saving products. The regulator must take confusing financial products off the market and allow only standardised ones that people understand.
An entirely different step into the right direction was the issuance of a commercial banking licence to Jamaican National. According to central bank numbers, building societies have much lower saving-lending spreads. It would be beneficial if the regulator, Bank of Jamaica, also issued a licence to the other building society - Victoria Mutual.
The regulator should also explore options to facilitate a transition of credit unions into a system of continental-European style credit co-operatives engaging in commercial banking and competing with private institutions.
- Jan Keil is assistant professor in the Department of Economics, University of the West Indies, Mona.