December 16, 2016

It’s time to fix the banks

John Redwood believes Trump’s election presents an opportunity to turn our backs on excessive austerity banking, and to find international agreement on the future of banking regulation.

Many advanced economies, especially on the continent, have struggled since the crash of 2008-9 thanks to the failure to mend the commercial banks. The main authorities of the advanced world lurched from being far too lax with how much banks lent compared to their capital, cash and reserves, to being too tough. As a result we have had slow growth or no growth, depending on the relative weakness of the individual national commercial banking systems. The US and UK fixed their banks more quickly than the Euro area, but still demand levels of cash and capital that makes normal levels of credit expansion difficult in this cycle. On the continent in the recession ridden economies of Italy, Greece, Portugal and until recently Spain, past excess has led to a long period of credit starvation.

All this cramps growth and opportunity. No-one is suggesting the banks should lend more to individuals and organisations that can’t repay the last lot they borrowed. This credit squeeze is also preventing new loans to individuals and companies that are not over borrowed, and stands in the way of the normal use of credit to grow demand for larger ticket items, and to expand business capacity to respond to rising demand.

I have long argued that I would rather the governments and Central banks since 2008 had concentrated on fixing the banks, than on Quantitative Easing as a palliative for not fixing the banks. I can see that QE could be better than doing nothing. However, one of its adverse side effects was to lower long interest rates, making it more difficult for banks to make a profit. This delayed their balance sheet recovery, as they need more retained profits to provide the buffers against future losses they need before lending more.

The arrival of Mr Trump may change all this. It offers an opportunity to turn our backs on excessive austerity banking, and to find some possible agreement between the Europeans and the USA over what the next phase of world banking regulation should look like. Basel IV, the possible further tightening of demands for bank cash and capital, is in dispute now. At the same time Mr Trump’s team may soon develop proposals to amend Dodd Frank and the US bank regulatory code that came in following the crash. Mr Trump will want to expand the US growth rate in part by making more loans available for good projects in the US private sector. That will require a new bank fix.

I will write more about this in future posts. The way to end austerity and slow growth is to fix the banks sensibly and credibly. The authorities made two big mistakes between 2005 and today. All now agree they were too lax prior to 2007. It is now possible more will come to see they have been too tough and too unhelpful to rebuilding well financed expansion minded banks since the crash. People may not like banks, but trying to punish them as institutions is a kind of self-harm, as it depresses economic performance if the banks can’t lend.

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John Redwood MP
John Redwood MP
John Redwood is the Member of Parliament for Wokingham in Berkshire. He was formerly Secretary of State for Wales in Prime Minister John Major's Cabinet. He is currently Co-Chairman of the Conservative Party's Policy Review Group on Economic Competitiveness.
  • Let them fall. I have half a dozen young ones but I know my kind and what we are capable of. We will prevail!!!

  • John Smith

    the big banks are insolvent so on the next downturn we need to let them fail and jail the CEOs

    thats called capitalism the well run ones prosper the badly run fail

    but the politicians and their bankster paymasters use public money to pay for their mistakes

    they cant lose, if they make a profit they millions in bonuses if they fail the taxpayer foots the bill

    so they take stupid risks as they dont pay any consequences

    look at RBS its 8 yrs down the road and they still keep finding bad debts

  • Sir Walter Tyrell

    Looking at the low level of interest rates, I’m not at all convinced that there is a genuine credit squeeze, certainly not for big business. Low interest rates look like a signal that banks are desperate to lend money and the BoE is desperate to get them to lend money – but businesses either don’t want it or don’t have sound enough business plans to pay even the low levels of interest that are asked. It is likely the case – as was shown by the Independent Lending Review on RBS – that some banks don’t take small businesses seriously enough and should be more willing to lend to good prospects. But there is a disctinct possibility that there just aren’t enough good prospects out there to lend money to.
    I suppose that RBS could help those small businesses become good prospects by offering them advice on how to become a big, reputable, successful, profitable company like RBS themselves. Err…right?

  • EppingBlogger

    The situation is pretty dire for smaller starty-ups. If the management and familkies plus a few trustinbg friends cannot raise enough cash the project is finished. Banks will not even lend working capital to such ventures.

    Any proposal to take a charge on the Diurectors’ hoimes is nonesensical – many parties in the venture are not directors, the charges are expressed as joint and several, yet the equity interest is usually not equal and ther should be no need for such a charge on a perfectly bankable working capital loan. It is what banks in the UK uused to be good at.

    They still seem to be happy to lend through credit card debt to people with no spare monthly money out of which to repay the debt but good business ventures get then cold shoulder.

    On another tack, they will lend five times salary to first time buyers at current property prices but no funds are availoable for a (say) 30 per cent funding on a small development project at rates lower than about 12 per cent a year. With inefficient planning departments holding up approval a project can be sat idle for a year racking up finance costs!

  • Huw Davies

    I’m mildly surprised to see Redwood on here acting as an apologist for Banks – “aw shucks, we’ve been too hard on them ease up a bit for our good” . Well John they are still sniggering away having got off so many hooks without any personal penalty. It’s much the same bunch of grey suits running the sector now as were in place in 2007/08 so ease up on them and they’ll be back to their old antics, with customer interests way down the pecking order, filling their boots and cheating as fast as they can. Profits are depleted because they rack up a huge cost base feathering their own nests – top salaries, perks and gold plated pensions the rest of us can only dream of. So wise up John it’s not as clear cut as you are spinning it. Think again, John, a guy of your calibre is capable of coming up with a more rigorous solution.

  • Wally-Jumblatt

    The banks are making plenty of money, but most of it is going down a dark hole
    Mortgages are Base+3%, lots of fees and charges being levied on everything, tonnes of red tape when opening an account and now they want to steal your cash.
    The solution is definitely NOT to let banks make more money, it is to stop them playing financial games and jail quite a lot of them

  • forgotten_man

    Addressing one small aspect if your post, others have contributed to your larger point rather well, the ‘There is clearly no proven benefit to the cost base from either large scale or diversification (cross selling other products)’

    Most businesses have customers and a less definable but real nevertheless thing called ‘goodwill’.

    The banks have ‘customers’ in the same way as N.Korea has ‘subjects’ (bit of an exaggeration but you get the picture!) but neither could say they have much or any ‘goodwill’.
    (ditto , increasingly with telecoms companies, a new sector that can take money from your account without much chance of viable legal recourse.)

    If it was a car dealership then you would buy your next car somewhere else and bank ‘products’ are viewed with suspicion and are often out performed by other agencies.

    So banking is the only option to which we have seen even arranged overdrafts accrue interest at and beyond old time Wonga rates.

    Which really doesn’t help with the ‘goodwill’ component….

  • MrVeryAngry

    Douglas Carswell proposed a bank reform Bill sometime ago. Basically you would have current ‘storage and settlement’ accounts that you’d pay for and against which the banks could not gear up. The key was the reform of the 1830’s and 40’s Bank Charter Acts which made it that once you deposited money in the bank it became the Bank’s money. That is still true. And DC’s Bill would have amended this error. Banks could then offer different types of investment account with rates varying with their riskiness. Those reforms make ‘depositor protection’ redundant.

  • Terry Howard

    I was in the Channel islands off-shoot. I should not have been covered by the UK compensation scheme but got all my money back no problem. I too saw what was happening with subordinated debt and other bonds. You’re absolutely right, it was scandalous and Brown was an idiot for doing this.

  • Bosanova

    Thanks. I followed the travails of Northern Rock for a while when I had a small amount at stake in their PIBBs. Nursed a loss for a while when they were rolled into the bad bank, but then HMG (under the coalition governement) signed off on the absurd buy-back scheme and galloped to my rescue. By rights I should have lost all that investment – Sometimes you get lucky. But I still remain amazed and angry (as a taxpayer) that such an operation went ahead.

  • Bosanova

    You are right. I hadn’t put my mind to it for a while to be honest. The abolition of depositor protection is more of a difficult political sell really. Joe Public can easily understand the government standing behind 75k of savings, but might have a harder time understanding say debt seniority over other capital instruments (as a possible alternative to give depositors peace of mind). Or no protection and an understanding that the interest rate you receive is indicative of the level of risk you run as a depositor – still a difficult sell I’d say. But I agree, to the extent possible, moral hazard should be kept to an absolute minimum.
    And that is the trouble with the draconian levels of regulation at present. Designed to safeguard too-big-to-fail banks, and hence our economy, they just erect insurmountable barriers to new entrants – protecting the established banks and thwarting competition.

  • Alan

    First thing we need to do is split the banks up. If they’re too big to
    be allowed to fail (like RBS) they’re too big full stop. Why do we allow
    monstrous banking organisations which provide financiers in Wall St/the
    City with massive influence over our economices to the detriment of
    customers and other industries? A bit of anti-monopoly legislation is
    needed, and fast.

  • Renwick

    Which I would take as the clearest possible indication that the unique protection the banks have been given is still in place. Which seems to include immunity from prosecution.

  • MrVeryAngry

    You really do not want to continue with ‘depositor protection’ for the simple reason that it is never any such thing. Such protection is simply extra free capital for the Banks and encourages a shed load of moral hazard.

    Lots of people want to start small banks, now. Why can’t they? The regulators won’t allow it.

  • Renwick

    Two absolutely outstanding pieces. I would like to meet you sometime. There is of course much, much more, but as you have said it was as clear as day to anyone with an average IQ that the banking nonsense was nothing more than conspiracy to defraud, knowing that the taxpayer was standing by to pick up the pieces when the shilling turned. I seem to remember a phrase the bankers were using a lot as things went spinning out of control: “this is a guaranteed profit…..” well, for everyone making a guaranteed profit, some sucker is going to make a guaranteed loss. Stand up the taxpayer.

  • Bosanova

    NorthernRock really is the Bank that, at every turn, took the piss and makes my blood boil. 110% mortgages, how was this ever considered responsible?
    Then when in administrative wind-down – supported by a £26bn Bank of England loan – it was allowed to pay off subordinated bond holders (former PIBBs a near equity/shareholder class of capital) in advance of full payment of the BoE loan. Thus reducing the total amount of cash available to payback the taxpayer-funded BoE loan. Bought at a deep discount to the face value (well clearly), this allowed CrapRock to register a capital gain like “profit”. Never mind that this was a genuine smoke and mirrors operation that took cash from the bank to pay equity holders before fully paying the governent loan. These guys should have been last in the queue for cash from a bank in taxpayer funded wind-down. It should have been a national scandal.

  • Bosanova

    I think RBS shows that all UK banks are not yet fixed.
    Retail and commercial banking, lending from the balance sheet and dull bread-and-butter banking operations, should be suitably capitalised (but not over the top as John Redwood correctly suggests) and should be held seperately from any capital markets activities which should be undertaken by other fiancial intermediaries.
    In short, retail banking needs to be really, really, boring, low-margin but dependable businesses where no one gets to bet the bank on the latest whizz. There is clearly no proven benefit to the cost base from either large scale or diversification (cross selling other products), so big banks should be smashed up into little banks that are allowed to fail – with a suitable (but not absurd) level of retail deposit protection. These banks must then be allowed to fail when necessary, at the sole risk of their shareholders and bondholders alone. National bailouts as we have seen have socialised private risk taking and are an intollerable imposition on taxpayers that must not be repeated. Arguably, due to “too-big-to-fail” status, bailouts were necessary last time around. We’ll have no excuse the next time – and there is always a next time.
    Lastly, while I’m all for letting the institutions get on with life and help the economy, I can’t say the same for indidvidual bankers at the helm of our banks up to the banking crisis. If the likes of Fred Goodwin (RBS), Andy Hornby(HBOS) and Adam Applegarth (NorthernRock) are not in jail then, at the very least we should know why. If it is due to loopholes in legal responsibility then these must be closed. It is intolerable that these people have got away with almost all the spoils of their risk taking while the nation has been lumbered with their debts.

  • Gordon Stewart

    Agreed,and if they go bust dont bail the fuckers like Redwood did,and dont ffs give them a knighthood

  • MrVeryAngry

    Banks are, and have been for years, a state sanctioned specially privileged cartelised supplier of a monopoly product engaged in counterfeiting. Any banking fix needs root and branch reform.

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