Modern Australian
Men's Weekly

.

Requiring firms to only sell financial products we can use is good, but not enough

  • Written by Kevin Davis, Professor of Finance, University of Melbourne
Requiring firms to only sell financial products we can use is good, but not enough

The government’s financial system inquiry, on which I sat, reported five years ago.

It recommended that the creators of financial products be subject to a design and distribution obligation (DDO), which would mean the products they sold had to not only make money for them, but also meet the needs of the people buying them.

An insurance policy that couldn’t be claimed on would fail the test, as would a product that charged fees for advice that wasn’t given, as would any number of products later detailed in the 2018 report of the financial services royal commission.

It’s the first half of 2020, and the Australian Securities and Investments Commission is seeking input into how the obligation will work. It has asked for comments by March 11.

Requiring products to be useful is good…

There ought to be nothing controversial about the idea. It reflects the fundamental premise upon which the free market economy is founded – that transactions should provide gains to both the seller and buyer.

Reputable financial institutions, seeking to meet community expectations, ought to already meet such obligations, although they are likely to incur some (hopefully minor) administrative costs.

However, as history and the royal commission have reminded us, even reputable institutions’ procedures can go awry and lead to badly designed products that exploit consumers.

Read more: CommInsure proves the need for a banking royal commission

Less reputable firms exploit consumers anyway, leading to a race to the bottom in terms of product quality.

…but not enough

Unfortunately, even if a financial product meets the DDO requirements, which means it is suitable for its intended consumers, it can be a bad purchase for consumers who aren’t aware of its true worth. Retail customers who overpay for a “suitable” product can lose just as much (if not more) as those being sold one that’s unsuitable.

Many financial products (actually, most financial products) have characteristics that make them hard to value accurately. When product outcomes depend on future events – as do insurance products – accurate valuations can be almost impossible even for customers who are financially literate.

For example a consumer might assume that there is a 10% chance of an event happening, when the true probability is less than 1%. Not only would they overpay on insurance (perhaps repeatedly), they would be unlikely to ever know about it.

It’s hard to tell when prices are bad

Suppose a producer can supply a financial product profitably for any price over $6. Suppose that buying it for any price under $8 would would benefit the consumer, but that the consumer is unable to tell what it is really worth.

Since the supplier’s profits increase as the selling price increases, what is there to stop the supplier increasing the price to more than $8 and harming consumers, in part because some would never get the product?

Standard answers talk about competition, disclosure, financial advice and financial education.

But if consumers don’t have the information they need (or the time they need) to do the calculations, what’s likely to happen instead is that competition will cut the worth of the products in ways that are not obvious to consumers.

As important as disclosure, advice and education are, they haven’t been able to stop this happening in the past.

What we are seeing are first steps

Plans by the Australian Prudential Regulation Authority to make banks and other deposit-taking institutions designate an accountable executive as responsible for the “end-to-end” creation and delivery of each product under a Bank Executive Accountability Regime (BEAR) would be an important step.

The government has announced plans to extend it to all financial institutions, making it a FAR (Financial Accountability Regime).

But there is nothing in either the BEAR or FAR rules that that would require the executives to price their products fairly.

Read more: HILDA Survey reveals striking gender and age divide in financial literacy. Test yourself with this quiz

DDO’s, together with the Securities and Investments Commission’s new temporary banning powers, should help to rid the financial sector of the most egregious types of consumer abuse. But will they do nothing to prevent profit seeking institutions setting prices for “suitable” products that cause poorly informed consumers harm.

It is not clear what could, short of instilling a sense of “fairness” into corporate cultures. While welcome, DDO’s are only the start.

Authors: Kevin Davis, Professor of Finance, University of Melbourne

Read more https://theconversation.com/requiring-firms-to-only-sell-financial-products-we-can-use-is-good-but-not-enough-131887

Powering Shepparton’s Businesses: Expert Commercial Electrical Services You Can Count On

When it comes to running a successful business, having reliable, compliant, and efficient electrical systems is non-negotiable. From small retail ou...

Maximise Efficiency: Cleaner Solar Panels for Optimal Performance

Solar panels are a smart investment in energy efficiency, sustainability, and long-term savings—especially here in Cairns, where the tropical sun ...

7 Common Air Conditioner Issues in Melbourne – And How to Fix Them

Image by freepik Living in Melbourne, we all know how unpredictable the weather can be. One moment it’s cold and windy, the next it’s a scorchin...

Powering Palm QLD with Reliable Electrical Solutions

Image by pvproductions on Freepik When it comes to finding a trustworthy electrician Palm QLD locals can count on, the team at East Coast Sparkies s...

The Smart Way to Grow Online: SEO Management Sydney Businesses Can Rely On

If you’re a Sydney-based business owner, you already know the digital space is crowded. But with the right strategy, you don’t need to shout the...

What Your Car Says About You: The Personality Behind the Vehicle

You can tell a lot about someone by the car they drive—or at least, that’s what people think. True Blue Mobile Mechanics reckon the car says a l...

The Confidence Curve: Why Boudoir Photography Is the Empowerment Trend You Didn’t Know You Needed

Boudoir photography has been quietly taking over social feeds, Pinterest boards, and personal milestones—and for good reason. It’s not just abou...

Understanding Level 2 Electricians: Why Sydney Residents Need Licenced Experts for Complex Electrical Work

When it comes to electrical work around the home or business, not all electricians are created equal. In Sydney, particularly when you're dealing wi...

Retirement Anchored in Model Boat Building for Waterford’s Doug Unsold

WATERFORD — When Doug Unsold sees his ship come in, it’s usually one he’s crafted with his own hands. The 67-year-old retiree from Waterford ...

The Science Behind Alarm Clocks and Your Circadian Rhythm

Waking up on time isn’t just about setting an alarm—it’s about working with your body, not against it. At the heart of every restful night and...

How to Use Plants to Create a Calming Atmosphere in Your Home

In today’s fast-paced world, cultivating a calm, soothing environment at home has never been more important. Whether you live in a busy urban apar...

How Maths Tutoring Can Help Students Master Maths

Mathematics can be a daunting subject for many students, often causing stress and frustration. However, maths tutoring has proven to be an effective...

Refurbished iPads Are Better Than New Ones (Here's Why)

Image by rawpixel.com on Freepik Apple's refurbished iPad program has quietly become one of the best deals in tech. While everyone obsesses over the ...

Your Guide to Finding the Right GP: What Perth City Doctors Offer Today

Choosing a General Practitioner (GP) is one of the most important health decisions you’ll make. Luckily, Perth’s vibrant CBD now hosts a new ge...

Why Every Mining Operation Needs a Robust Safety Management System

Mining is one of the backbones of the Australian economy, particularly in Western Australia. Back in 2019-20, mining contributed 10.4% of Australia...

Australian Classic Literature Enjoys Resurgence

Welcome back to the good old days of storytelling! As the modern world becomes increasingly more demanding, returning to childhood favourites offers...

How to Choose the Right Lawyers in Sydney for Your Situation

When faced with a legal issue, selecting the right legal representation can make all the difference. Whether you're dealing with a personal injury, ...

Building a Governance Model for Headless Content Management at Scale

Image by pch.vector on Freepik There's never been a better time to implement a headless content management system (CMS) to gain the flexibility and ...