Banking (banca, Italian word for bench) evolved from the need to trade! The first banking institution, in a similar form as banking at the beginning of last century, was founded in Venice, at that time an important seaport, in 1135 A.D. However, premises of banking are ancient. The first code relative to options goes back to the code of Hammurabi, 3800 years ago. On the black stone, discovered in 1902 near Susa, Iraq, was the world’s first complete set of written laws, the famous code Hammurabi. Paragraph 48 details what the obligations are of borrower, the farmer, and the lender. When a crop failure happened, the debtors had the right to pay nothing that year. The lenders had to do without interest.
Nothing new under the sun? Yes and no! Today, the word “bank” has many different meanings. One might make the statement that banking has evolved into different types of
professions mainly under the pressure of competition and greed…and the quants moved in leaving a lot of executives ignorant of what happened and why! Just think about LTCM.
The changing pattern of the banking industry evolved in line with the deregulation of the banking industry in general and the emergence of new
techniques which required greater specialisation. In Western Europe, deregulation started in the early seventies but culminated in the EU’s programme of 1992. The eighties saw the banks dividing into retail, corporate and wholesale or private and investment banking, which, for retail and private banking, undoubtedly meant: increased segmentation of consumer groups, replacement of paper-based systems, increased competition for both deposits and loans. All this has led to a tremendous blurring of the boundaries between classical banking products, insurance products and diverse financial services products such as structured products. To the customer they may all seem to be banking products because they are delivered through banking channels whereby the banks merely act as brokers or distributors for other professions. This has left not just consumers confused but also the authorities. A vast majority of quasi banking services are hardly regulated i.e. shadow banking which represents about 60 trillion US. (Wikipedia).
Everybody is familiar with the sub-prime crises. This event brought the total financial system to a near collapse, leaving millions stranded.
What next? More regulation? Back to the Glass-Steagall act, the banking act of 1933, voted as a result of the “great depression”?
Consider two elements: the first one, banking is a business; the second one, business entails risk.
Business has only two levers: either increasing market penetration or decreasing cost of providing the services. Firstly, you do not need a different model to address those issues but a review of the asset products, liability products and off balance sheet products. Secondly, risk needs to be assessed properly and conservatively rather than guessed and misunderstood by the vast majority of the executives.
If you want to know what this all means in practice have a look at the film “INSIDE JOB”. Who is to blame: something I referred to, in an article in the Serbian Bankers Magazine, as GREED. Nobody feels responsible, neither the so called bankers, nor the auditors, nor the lawyers, nor the authorities, nor the regulator. Some made a huge profit and others lost. As usual it is the man in main street who loses the most.
How can we avoid that in the future? Not by additional rules and regulations but by holding people ACCOUNTABLE. You do not need a different business model for that! Accountability means that, for instance, when a FED Chairman, who has significant resources at his disposal to assess the economic situation, comes forward in a senate committee and makes the statement that a crisis, he was paid do see developing, came as a total surprise, he should be held accountable and reimburse his job related earnings.
Remember the Glas-Steagall act, as a result of the painful experience of the big depression? We are back in a severe depression, so let us use the wisdom of our predecessors and revert to those rules whilst adapting them but not adding a few layers to them. Georges Soros compares the financial system with a big oil tanker. The tankers have compartments to store crude. Imagine that we have no compartments and just one big single compartment….Needless to underline what would happen. So let us put the compartments back in the vessel called the financial services. Let us also use the word bank for the banking activities as we knew them centuries ago and let us make clear in our branding strategies what the difference is
between banking and trading or brokerage or insuring or whatever other financial activities are performed.
The second lever is cost. It is chocking to see drastic redundancy programs of organisations such as Citigroup, with jobs losses in the thousands. Meaningful cost avoidance programs should be introduced in order to avoid cost cutting. Lean banking is the answer. It is about the distribution of products in a mode that answers the questions: can it be cheaper, faster, safer, better…
Finally, it is all too easy to say that the risks were not known or misunderstood or wrongly computed. Selling a product, whatever it is means understanding it. It is a matter of ETHICS, another word that does not match with greed. The chairman of one of the rating houses, when asked by the Senate committee if he did not feel embarrassed by the fact a A-rated company went bankrupt answered that the company was “just giving an opinion, nothing more”…..The chairman of a Wall street bank when asked by the Senate committee if he did not feel embarrassed by the fact they were selling products they internally considered as quote “shit” unquote, stated that the proposed products at the fair market value….
If something needs to be changed it is not the model but the values and the way society rewards those who live according to those values. If not, it will come over and over again with the man in the street getting poorer and the rich get richer. Everybody knows that, as underling by Leonard Cohen’s song!
We do not need a new model, we need a different attitude! The question is how to enforce a culture of compliance and make sure corporate values are known and respected. There is no lack of answers. Let us have a look at that in my next blog.