The overall level of misdemeanour is arguably no worse than that observed in many other overseas financial systems. But public outcry and political pressure from opposition parties eventually led the Australian government to initiate a Royal Commission into misconduct in the financial services sector. The main focus is on banks, and particularly the four major banks that account for around 80 per cent of Australia’s banking and a significant share of other financial services due to horizontal and vertical integration. The Royal Commission is also charged with examining conduct in other sectors including insurance and superannuation.

A notable feature of its genesis was that the banks, having previously opposed a Royal Commission, requested that the government establish it. This is likely because they believed that most cases of misconduct had already been exposed, such that much of the proceedings would be yesterday’s news. The alternative was continuing adverse publicity and a plethora of other government inquiries on specific matters.

While the process may prove cathartic, it has already produced challenges for Australia’s banks.

First, the exposure of a wide range of issues of poor conduct (albeit often different for each bank) is a sobering exercise for senior management and boards upon whom responsibility for bank ‘culture’ rests.

Second, the Royal Commissioner has already chided the banks for inadequate responses to his initial queries. Specifically, he appeared concerned that while relevant cases were documented, there was little evidence of coherent strategies by the banks to understand causes and develop remedial strategies to prevent future misdemeanours. Even where cases of non-compliance with laws and regulations had already been settled, some banks did not appear able to show how they had ensured that the cases were not part of more systemic problems.

Public opinion has generally been in favour of a Royal Commission. Ongoing headlines of specific cases of financial consumer losses and poor treatment, and little evidence that banks have adequately ‘punished’ either those responsible or senior staff (including top executives and board members) is one reason. High levels of profitability of the major banks have also contributed to a feeling that profits are put ahead of people — although levels of consumer satisfaction with their own bank remain relatively high.

Those most vocal in calling for a Royal Commission are likely to be disappointed with the process. People hoping that their individual case will be scrutinised (the Commission has had many such submissions) and that they will be paid restitution for wrongdoing will be disappointed unless the Commission finds evidence of systemic issues of inappropriate behaviour warranting banks and regulators to re-examine groups of relevant cases.

In addition to identifying the underlying causes of poor behaviour, the Royal Commissioner is facing two main challenges.

The first is that many complaints are not issues of misconduct where legal principles apply, but rather with issues where behaviours ‘fall below community standards and expectations’ as the terms of reference prescribe. To use an Australian idiom, this can perhaps be thought of as customers getting a ‘fair go’. Identifying what is fair is inherently challenging, as is reconciling fairness with a profit objective and ensuring staff behaviours are consistent with that. The nature of the social license that banks have (or should have) given their privileged position is a fundamental question.

The second is to recommend regulatory or other changes to prevent repetition of past failings while fostering a healthy banking sector. Possibilities such as broadening representation on bank boards to include customers and workers, requiring boards to put interests of customers above those of shareholders or limiting horizontal–vertical integration are most likely a step too far. But it would seem unlikely that some recommendations for significant structural and organisational changes would not emerge from the process.

For the banks, dealing with the Royal Commission is only one of the challenges they face.

The planned introduction of ‘Open Banking’ may expose banks to new types of competitors and provide customers with new, untested services from fintech companies able to access new data. There are significant potential benefits from this development — but there are also risks that the many conduct issues that sparked the Royal Commission may emerge in different forms elsewhere in the financial system.

And an inquiry by the Australian Productivity Commission into competition in the financial services industry is underway. While not a key issue raised in its draft report, there remains the risk that increased competition in the banking sector could lead to a ‘race to the bottom’ in ethical standards — unless long term reputational effects and moral considerations outweigh prospects for short term gain.

Kevin Davis is a Professor of Finance at the University of Melbourne, a Research Director at the Australian Centre for Financial Studies, Monash University, and a Professor of Finance at Monash Business School, Monash University.