UK competition watchdog considers small business banking probe

* Watchdog will decide whether to launch full probe later inyear

* OFT says SMEs may not be getting best deal from banks

* UK finance ministry 'determined to increase competition'

* Big 5 lenders account for three-quarters of SME lending

By Matt Scuffham

LONDON, March 11 (Reuters) - Britain's new competitionwatchdog will decide later this year whether to launch afull-blown investigation into the services provided by banks tosmall businesses, the Office of Fair Trading (OFT) said.

The OFT raised concerns that lending to small andmedium-sized enterprises (SMEs) is dominated by a small numberof major banks, that it is too difficult for new banks to enterthe industry and that it is hard for small firms todifferentiate between lenders.

"A concern is that these factors, in combination, may reducethe incentive for providers to compete on price, invest inservice delivery and quality or innovate, which may mean thatSMEs do not get the best deal for their banking provider," theOFT said in a statement on Tuesday.

Britain's biggest five banks - Royal Bank of Scotland, Lloyds Banking Group, Barclays, HSBC and Santander UK - account for aroundthree-quarters of lending to small businesses and lawmakers arekeen for challengers to emerge to break their dominance.

Total borrowing by UK SMEs at the end of 2013 was 112billion pounds ($186 billion), according to the British BankersAssociation (BBA).

"The government is determined to support increasedcompetition and new entrants in the banking system, to deliverbetter results for consumers and businesses," a spokesman forBritain's Finance Ministry said on Tuesday.

A new body - the Competition and Markets Authority (CMA) -is being created by combining the OFT and Competition Commissionand will monitor competition issues in Britain from April.

The OFT said that the new watchdog will assess concerns overbanking services to SMEs as part of a wider examination ofcompetition in retail banking. It will then decide whether tolaunch a broader investigation.

Labour leader Ed Miliband has said he will instruct the CMAto produce a report on how to limit the market share of bigbanks and encourage new competitors should Labour win the nextelection in 2015.

New entrants such as Aldermore and Shawbrook have alreadybegun to surface in the wake of the 2008 financial crisis,looking to fill a gap as the big banks focus on shrinking theirbalance sheets and building up capital reserves to meet newregulations.

"It would be helpful if there was greater communication fromthe government and regulators to ensure that SMEs understandthat there are alternatives in the banking sector," Aldermore'sCommercial Director Mark Stephens said on Tuesday.

The BBA, a lobby group, said its members were in favour ofcompetition and would work to make sure customers got the besttreatment possible.