News today that the big four banks are set to dump exit fees to ward off government intervention on other fronts. Should we be suspicious of this? Absolutely. Let’s face it, the broader issues with the major banks have to do with their ‘free guarantee’ from the public and what this should mean in terms of broader obligations in return (e.g., information exchange, risk requirements, etc that Stephen King outlined).
But let’s quickly think about the whole exit fee issue. The idea is that when you are a consumer and want to switch banks for your mortgage you may be forced to pay your current bank a fee. That makes it more costly to switch. But that is only half of the story. If the bank you want to switch to as a fee for entry (e.g., loan application or other fees) then, even if they have a lower interest rate, you might be deterred from switching. Of course, it is up to the new bank whether they charge you such fees but it remains a choice. In reality, your total switching cost will be the sum of exit and entry fees.
The issue is whether eliminating exit fees will lead to a reduction in these total fees. One thing keeping entry fees lower is precisely that banks are capturing a consumer who will find it hard to leave (allowing them and all banks to relax pressure to compete on interest rates). Remove the exit fees and you might get lower interest rates but it could also be that banks find it more worthwhile to charge higher entry fees. If that is the case, things may improve but not necessarily by much. Playing games with price structure is no substitute for improving market structure.