COMPETITION assumes you will spend where the lowest price and best product offering come together, but competition has taken a strange turn in bank mortgages.

The global investment bank UBS released a report into the Australian mortgage market a week ago and found the banks were earning more profit on mortgages (0.88 per cent after tax) than at any time since 2004. This is happening in part because the cost of the banks’ wholesale funds is the lowest they have been for five years.

So if it’s cheaper to provide a home loan, why aren’t the rates dropping? Well, in many cases, the rates are dropping … just not at the big four banks. Have a look at a comparison site such as RateCity, where the major banks’ standard variable rate loans are generally the most expensive and the most reasonable are offered by credit unions, non-bank lenders and building societies.

The difference between RateCity’s lowest and highest variable rate is 1.91 percentage points, yielding a difference in monthly repayments for a $300,000 loan (with a 30-year term) of $369 a month. That’s $4428 a year, or $132,840 over 30 years. Yet, about 90 per cent of all new mortgages are written by the big four. Economists call this an oligopoly.

To create an oligopoly, you need to be selling something that everyone wants, and you need high barriers to entry, which discourages new entrants to the market. In an oligopoly, the participants don’t compete on price and product as much as they ”match” one another. This is the current situation, but 2013 could be a year of change. The fact that UBS sees the banks profiting from the average Australian mortgage, and that it believes the market is due for a shake-up suggests the capital markets see room for a correction.

I also note the formation of the Bank Reform Party to contest this year’s federal election. They have a platform of competition and consumer protection and want to challenge the illusion of competition created when big banks operate behind brands such as St George and Bankwest.

But the most important factor in competition is the consumers’ actions. So even though I – and others – predict strong competition in the mortgage market this year, to reap the benefits people need to chase the best rates. This can mean switching lenders or renegotiating your loan.

Mortgages can be emotional products because the loan relates to your home. But if you see this loan as a monthly cost similar to phone plans or car finance, you free yourself to find the best deal for you. Mortgages are a commodity. All that matters is the best deal. And remember: consumers drive competition, but only if they act.

Posted by Mark Bouris – The Age on 3rd March, 2013