View From City Road: Banks battle in a stagnant market

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The Independent Online
Big cuts in bad debt provisions can certainly make bank profits look buoyant, but they also have the effect of disguising fundamental weaknesses and problems.

As the banking cycle moves from bust to boom, investors would be well advised to keep a keen eye out for the weaknesses.

Lurking behind the 83 per cent rise in profits reported yesterday by National Westminster Bank and buoyant remarks of its chairman Lord Alexander, there are weaknesses aplenty. The main one seems to be controlling costs. During the half-year, costs rose 4 per cent. Most of this is down to investment in NatWest Markets and Bancorp, both businesses which until quite recently were threatened with the axe but now seem to be booming. However, there is still clearly a problem with costs in the UK branch network. In the meantime, income from the branch network is on the decline.

With loan demand still flat as a pancake, and likely to remain that way for some little while yet, this looks like becoming a serious handicap. Lord Alexander insists that loan demand will inevitably pick up as the economic recovery gathers pace and confidence returns. Perhaps. But with so many burned by the recession, caution is still the governing principle in both the corporate and personal loan market.

More worrying still for NatWest, and the rest of the high street banks, is the prospect of a price war. Bankers are united in insisting this will not happen, but it only takes one to step out of line with, say, a really juicy cut in overdraft rates, to precipitate such a conflict. There has already been deep discounting in the lucrative mortgage market, and Abbey National ruffled feathers with its overdraft rate cut a month ago.

NatWest indicated yesterday that it is determined to defend its UK franchise, whatever the cost, and if the cost is a price war then that would have a dramatic impact on profits. NatWest has over a quarter of the UK small to medium-sized corporate market, and a fifth of the country's personal accounts.

For the banks, the provision-cutting story is now largely over. The battle for business in a stagnant market is only just beginning. The best may already be over for bank shares.