The financial calamity that struck the world back in 2007 resulted in the global economy shrinking by 6 per cent in a span of two years that consequently lead to double unemployment. The sentiment pervading amongst the proletariat protesting against the Wall Street is a direct result of the increasing socio-economic disparities that are widening the fissures between the ruling elite and the working classes. This divide has been mainly fueled by predatory bank lending however what is more important to discern is that while banks have been blamed as part of the problem, they also at the same time happen to be a part of the solution as well. These very institutions that gave birth to the problem must now work to resolve it by starting to lend once again. Given falling demand of commodities across the globe that is igniting the recession without reprieve the priority must be set for recovery without at the same time abandoning the pivotal goal of reform – a seemingly difficult line to tread politically in these volatile times.
Reforms must be initiated by taking steps to re-regulate the financial services industry and where experts once claimed that ‘efficient’ markets can be very safely left to self regulation. When one reads or writes about financial markets it is very hard not to come across such ‘cocksure drumbeat’ of Money Power that has collectively failed to identify public interest. For almost 5 long decades the Money Power was made accountable by what was attributed as “countervailing power of government.” This political check was in the form of America’s Glass-Steagall Act of 1933. The purpose of this act was to prevent commercial banks from risking deposits by mandating what can be called the institutional separation of retail and investment banking. As a result of such steps what ensued was 65 long years of decent financial stability. Economists later termed this as repressing the financial system – retail banks fulfilled their own role of financial intermediation while government took policy measures to ensure full employment levels and sustained investment in the country.
However in an act of short-sightedness and powerful lobbying by vested interests, the then US president Bill Clinton repealed the Glass-Steagal in the late 90’s. From that point onwards banks were allowed to merge and were given discretion to provide a diverse range of banking facilities together with indulging in trading activities. This wave of deregulation with it swept away the promise of Roosevelt of “chasing the money changers from the temple.” Credit swaps were systematically refused regulation and the Securities and Exchange Commission of the US took the disastrous step of allowing banks to triple their leverage.
These very decisions were at the core of the banking collapse in 2007-08. In what was later understood as ‘over-lending’ the champions of deregulation comprehended that there was a need to bust bubbles that were fueled by debt, a viscious cycle that has the ability to bring countries down to their knees. The new doctrine that was collectively endorsed following the collapse of the big banks was the doctrine of “macro-prudential regulation.” As a result of this doctrine under an international agreement known as Basel III, banks were now expected to increase the ratio of equity capital held against their risk weighted assets. Leverage was also limited to smaller percentage on these assets.
Money Power if understood in detail never really surrenders at will, and most of the proposals that are drafted to reform the banking sectors remain at the drawing board stage mostly due to lobbying by vested interests.
However the real dilemma is that all the proposals that aim to address the banking sector in the US and across the globe do not address the most pressing concern of the problem, which is undersupply and not an over supply of credit. The real challenge today is to spur lending growth in full throttle, while at the same time devise ways to rein this lending growth from transforming into a a monster.
The writer is a banking professional with 30 years of experience and is currently working as Chief Manager SME bank
