Britain’s biggest banks have provided the majority of government-backed loans designed to help small and medium-sized businesses through the pandemic © Jason Alden/Bloomberg

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The first Metro Bank branch opened 10 years ago with the aim of making UK banking more like the US. A decade on, the coronavirus pandemic has highlighted the gulf that still remains between the two.

Metro may have succeeded in introducing an American-style emphasis on customer service. But investors — and regulators — had also hoped to replicate the competitive lending market that helped the US economy recover when the biggest banks were reluctant to offer loans after the 2008 financial crisis.

Instead, experts fear the latest economic downturn will further entrench the dominance of Britain’s biggest banks — Barclays, HSBC, NatWest and Lloyds.

“The 2008 crisis spurred on policymakers to prioritise competition,” said Paul Pester, a former TSB and Virgin Money chief executive. “There’s a big risk the 2020 crisis takes all the momentum out of that agenda.”

The big four banks had provided more than 80 per cent of the government-backed loans designed to help small and medium-sized businesses through the pandemic, as of the end of June. In contrast, the four largest banks in the US accounted for just 12 per cent of lending in their government-backed scheme in the same period.

Column chart of Market share of approved bounceback loans and coronavirus business interruption loans (%)*  showing Britain's big banks dominate government lending schemes

Although the US market has become more concentrated in recent years, its four largest banks still hold just 35 per cent of customer deposits. In the UK, the top four hold well over 50 per cent of deposits, and have a particularly large share of cash in low-interest current accounts, which regulators have said provides a “significant funding cost advantage”.

The trend has worried the Open Banking Implementation Entity, a body that was set up to deliver competition-boosting measures after a 2016 investigation by the Competition and Markets Authority.

Imran Gulamhuseinwala, OBIE trustee, told the Financial Times that government programmes had “kept the wolf from the door for huge numbers of businesses”, but said “the wider agenda of injecting much-needed competition and choice into SME lending might inadvertently be set back.”

“We can’t afford to let that agenda slip,” he warned.

Difficulties faced by “challenger banks” before the pandemic have been exacerbated.

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Smaller lenders looking to close the gap with bigger rivals must now contend with a toxic combination of falling profit margins, rising regulatory costs and a surge in loan defaults, while non-banks that cannot take customer deposits have battled with rising funding costs.

Record-low interest rates are especially painful for smaller businesses that lack economies of scale. Nationwide, for example, abandoned plans to enter the UK business banking market after the Bank of England’s emergency rate cuts made its plan unviable.

Newer fintech lenders such as Monzo, Tide and Starling have had their valuations slashed or struggled to meet demand from new customers.

At the same time, HSBC — Europe’s largest bank by assets — has picked up thousands of new business accounts at a faster rate than normal, as customers fled smaller lenders that could not provide the government-backed loans, according to one senior executive. 

HSBC’s scale and low funding costs have also allowed it to continue an aggressive push to take market share in mortgages, while smaller specialists were forced to stop all lending and focus on backlogs of existing customers requesting assistance.

Mortgages are traditionally more competitive than other areas of the UK market, but the big four’s 43 per cent market share is still substantially higher than in countries where insurance companies and other non-bank lenders are more active.

Bar chart of Customer deposits at June 30 (£bn) showing Customer deposits at the UK's four biggest banks dwarf their closest challengers

Together with Nationwide Building Society and Santander, six mortgage providers accounted for almost 70 per cent of UK lending in 2018.

Privately, senior bankers have acknowledged they are benefiting from their smaller rivals’ woes. “There are some undercapitalised lenders that rely on wholesale funding . . . [and] some of the challenger banks you have to ask questions about,” said a board member at one of the big four banks. “All this is good news for us.”

Although the OBIE has raised concerns about competition, many in the industry are sceptical they will receive help. Mr Pester said that, in theory, there were many relatively simple ways to help strengthen competition, such as making it easier for customers to shop around for personal loans without damaging their credit files, but he warned that a lack of political will could hold back reform.

“Our client in creating TSB was the UK government, because they had to satisfy an EU ruling [after bailing out Lloyds]. Who’s going to be waving that big stick as we come out of this crisis?”

Also, as the big UK banks position themselves to aid the economic recovery this time, executives fear regulators will be reluctant to punish them.

Several current chief executives of midsized banks and building societies said they were worried about the long-term impact that Covid-19 would have on the UK market, but were concerned about being seen to criticise the government during a crisis.

John Glen, the economic secretary to the Treasury, told a recent industry event that “we have to make sure we enable competition and growth [in financial services] during the recovery”. The Treasury did not respond to a request for comment on how it plans to achieve this. 

Ravi Anand, managing director of business lender, ThinCats, said smaller lenders and non-banks needed to get better at working together to push for change.

“The big banks have been trying to be helpful and done what the government wanted, so there will have to be pressure from our side,” he said.

Mr Anand was still optimistic about opportunities for growth in areas such as midsized corporate lending, where big banks find it harder to automate processes. But he added that the task would be much easier with regulatory change.

The Prudential Regulation Authority, the arm of the Bank of England that supervises large banks, has acknowledged some of the issues. In a speech late last month, Sarah Breeden, executive director for UK deposit takers supervision, said the regulator would consider introducing more flexibility for non-systemic banks, and may curtail some of the benefits given to big lenders that are allowed to use their own internal models when calculating risk-weighted assets.

Ms Breeden added, however, that she still expected some lenders to run into trouble in the next few years, and they should not expect the regulator to intervene. 

“Many of the new banks authorised since 2014 seem to have underestimated the development required to become a successful, established bank . . . Authorising more new banks inevitably means managing more banks’ exits.”

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