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Competition: why it matters for banks (and you)

Chapters

    We aim to keep banks safe, but of a bit of healthy competition can be a good thing for consumers.

    Why do we care about competition?

    Competition between banks should make them provide quality services. If they don’t, they risk losing customers to more efficient banks.

    It’s a bit like scrolling through Facebook on your laptop and suddenly, the internet suddenly stops working. Then, the next day it happens again. If this kept happening, you would probably switch providers to one that was more reliable.

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    Competition forces banks to up their game, to keep their customers happy. This increases productivity, which is good for the economy.

    Creativity and cost

    An obvious way for a bank to attract customers is to keep their prices low in comparison to other banks.

    Imagine two restaurants next door to each other with exactly the same menu. Which would you choose to eat in? It’s safe to say: the cheapest.

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    When banks lower their prices, you are more likely to make use of their products, for example, a mortgage. It leads to higher economic activity when customers buy products and services from banks.

    However, there is a limit to how cheap banks can make their prices because they still have to cover the costs of their own activity. Instead, banks have to think creatively about what else they could offer to make you want to bank with them.

    Think again about those two restaurants with the same menu. This time, the more expensive one offers you a free cinema ticket with your meal if you choose them. Which restaurant would you pick? The additional offer now makes the decision harder.

    Often banks offer additional products with services (anything from contactless payments, to free rail cards) to make you want to join (or stick with) them. This works well for both banks and customers because they increase their business and people get more for their money.

    Stability

    Another reason we support competition is because before the financial crisis, some banks were ‘too big to fail’.

    ‘Big’ refers to how interconnected they were to the economy. Measures had to be taken if these banks were ever in trouble, to make sure they could continue to provide services.

    However, during the financial crisis, the biggest banks realised they would be bailed out… which made them take more risks.

    An example of this is the collapse of the investment bank Lehman Brothers in 2008. Extreme risk-taking led to bankruptcy. This increased the impact of the financial crisis on the economy and so huge bail-outs were made to prevent more harm being done.

    Competition is one way to help avoid this happening again.  If there are lots of smaller banks offering great services, its unlikely people will only bank with major firms. Banks will then take fewer risks as they know they won’t be bailed out in a crisis because their failure would only have a minor impact on the economy.

    How do we help support competition?

    New banks

    We help new banks enter the market by making sure our policies are fair to both big and small banks.

    We also regulate banks to make sure their failure wouldn’t have a huge effect on the economy and to enable banks and customers to have a good relationship, meeting each other’s needs.

    This framework enables competition and we soon see the benefits – lower prices, better quality, and greater innovation across banks.

    Find out more:

    • Read the Quarterly Bulletin article, ‘The Prudential Regulation Authority’s secondary competition objective

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