Bashing? Only in banking

Let’s go back in time. In 2008 and 2009, a global industry experienced a collapse on a scale not seen for decades, partly because it had overexpanded into areas that were unsustainable and that did not match customers’ expectations. The US was badly hit. An unprecedented $85bn bailout was set up to save three of the main US firms. A few years later, some of these had recovered. Others had been acquired by foreign companies.

This industry was the auto industry. Its fate was relatively similar to the one of the banking system. However, their post-crisis treatment cannot be more different. One industry is celebrated; the other one has become politicians’ punching bag.

The collapse of any industry is evidently catastrophic. But let me ask: how would we react if, following the crisis, governments appointed auto regulators to approve (or not) any new product developed by the industry in order to ensure that this product would match customers’ demand (as viewed by those regulators), and that as a result the firms’ future would not be endangered by a few failed products? What would we say if regulation forced all those auto companies to maintain a much higher pre-defined liquidity (and/or capital) buffer against all accrued income? Or if leverage caps were introduced to prevent any firm from taking on too much debt, despite growing revenues and investments prospects and/or new business opportunities?

My guess is that most people would be infuriated to witness such economic micromanagement. Economic planning has been attempted a number of times. And failed. Every single time. And, indeed, governments have not implemented such measures.

But clearly, the auto industry had failed and a large amount of taxpayer money was injected. Despite this, nobody (to my knowledge) talked of prosecuting auto industry employees for their failure. Nor did politicians speak of implementing auto industry-specific taxes to ‘punish’ them for their collapse and the subsequent use of taxpayer money.

But for some reason, all the measures described above suddenly become acceptable once we move into banking realms. Vengeance (and deficits), rather than reason, seems to be what guide politicians’ decisions. Take the new UK budget revealed last week, which comprises an extension of the ‘exceptional’ bank levy. The reason:

The banks got support going into the crisis; now they must support the whole country as we recover from the crisis

Such short-term political view is counterproductive in the medium-term. Regulators themselves complain that, while they try to build banks’ capital buffers, the same capital evaporates into uncontrollable, opaque and often hard to justify large fines*. To the list, regulators could now add those unending ‘exceptional’ bank levies. Extracting money from banks has effectively become a new convenient and politically acceptable way of financing the state, alongside regular taxation, debt and inflation. The rule of law seems to be evolving into the rule of government deficit.

The only effect of all those measures is to further weaken the banking system, reducing its ability to lend and therefore strengthen the economic recovery. Politicians are shooting themselves in the foot. You cannot have your cake and eat it.

Apply the same measure to any other industry and brace yourself for a public outcry. I can already hear the rebuttals from here: ‘but banking is different’. It is only partially true. Banks control a large share of the payment system, but one of the reasons is that governments have historically raised barriers to entry. Of course, if banks collapse, a number of savers may not be able to recover the entirety of their savings. But the same applies to any other non-banking investment. What would have happened to savers that had invested their life savings and pensions in auto equity and bonds if this industry had fully collapsed? Following such logic, no other non-banking firm would ever be allowed to fail as this would lead to job and savings losses.

Banks of course intermediate between depositors and borrowers. When they fail, credit cannot be properly allocated to sectors where it is economically efficient, making banking failures disruptive. But over-protecting banks make them weaker (i.e. moral hazard). And bashing bankers do not heal banks. It weakens them further. And, in the end, it weakens all of us, including politicians, legislators and regulators.

*I am not saying that fraud should not be punished. It should. But the legal basis for extracting such large amounts from banks is extremely unclear, as The Economist pointed out:

To a public angry at banks for their role in the financial crisis, this may all seem like reasonable retribution. Yet in many cases the rush to punish is overturning basic principles of justice.

Or also see this now ‘old’, but prescient, article (2012):

If banks once did banking, now they practise law. […]

A settlement often suits the authorities as well as the banks. Fines are frequently used to fund government budgets; and many a political career has been launched on the back of a high-profile deal, without the need to prove allegations in court. […]

Oklahoma’s attorney-general, Scott Pruitt, was the only one of his colleagues not to participate in the national mortgage settlement earlier this year. Mr Pruitt said it had nothing to do with genuine fairness or justice, rewarded bad behaviour and reflected an illicit expansion of regulatory power.