Frances Coppola’s fine blog points out that Will Hutton is wrong, and so is George Osborne. Letting Chinese banks trade in the UK as branches of the parent company (like: Bank of Ireland), not subsidiaries (like: Bank of Ireland (UK) Ltd), may perhaps get the UK taxpayer off the hook should they go bust but only in the sense that it leaves it up to the Chinese whether UK depositors ever see their money again. (And if you think it was hard getting Iceland to pay up…)
I was leaving a comment but it turned into a blog post. The problem of letting them operate as branches is that it creates two classes of financial institution on the high street, one which is ultimately safe and one which…isn’t, but which has very good reasons to present itself as being so.
The aim of policy here is surely to prevent runs on the bank, as well as just looking out for normal people who aren’t in the habit of forensically reading financial statements prepared in accordance with someone else’s accounting standard and possibly written in Chinese.
If a run on the bank happens, either the depositors (that’s us) end up out of pocket or else the taxpayers (that’s also us) end up out of pocket, depending on whether the government insures the deposits. There is obviously a better option – don’t have a run on the bank in the first place. This is one of the main reasons why governments insure bank deposits. (And, just on general principles, do you really want to be your own bank regulator?)
If you don’t want runs on the bank, you need it to be the case that if a random citizen puts money into a bank, it will still be there in the morning.
Deposit insurance did very well at this for many years up to 2007. Then it failed.
As a society, I think we need to reflect deeply about why it didn’t work. It didn’t matter that the Bank of England could lend Northern Rock all the cash it needed to clear withdrawals. It didn’t matter that the Treasury could tax the whole country to pay out the depositors. They were sufficiently convinced on a normal and quite prosperous weekday in the autumn of 2007 that the government would just break the law and default on its debts in order to screw them personally that they all went down to the bank to fetch the money.
Whatever you think the explanation is, I think it’s a fair conclusion that we need to make an extraordinary effort to restore the credibility of deposit insurance. We now know that a run on the bank is a real threat. We also know that the measures to prevent one didn’t have any credibility for a lot of people. So I think the notion of having two kinds of bank on the high street, one of which is ultimately reliable and the other isn’t, is crazy talk.
Perhaps no-one’s suggesting opening up in Uttoxeter, Featherstone, or Kirkwall. But even if they didn’t go as far as opening up in Uttoxeter or wherever, part of the Icelandic story was that just because something is considered a wholesale bank, it doesn’t mean it can be treated as similar to an old-fashioned casino where anyone who loses presumably knew what they were getting into. KSF ripped off lots of local councils and similar institutions by serious amounts of money.
aside from your main point re: branches …. I am not sure you are right to see the events of 2007 in terms of a loss of confidence in deposit insurance.
my understanding is that the runs that caused the crisis (or perhaps more accurately were the culmination of a longer causal chain) were runs on uninsured shadow banks, and some people ** think that if deposit insurance was extended to shadow banks (presumably with accompanying regulatory oversight) that would be a finger in that particular dyke.
I agree the retail deposit run on Northern Rock was weird, in that it occurred after the announcement that deposits were safe, but I don’t think it was the run that did for NR. I think this is a good non-technical (ish) account of what happened at NR, which concludes the damage was done earlier by a run of wholesale lenders.
http://pubs.aeaweb.org/doi/pdfplus/10.1257/jep.23.1.101
as far as I know, no other banks suffered a retail run during the crisis [*], so I don’t think the crisis taught us that that sort of run is a real threat.
[*] happy to be corrected on that.
** Gary Gorton
http://www.brookings.edu/~/media/projects/bpea/fall%202010/2010b_bpea_gorton.pdf
@Luis – Bradford & Bingley suffered a slow motion run, but it was further into the crisis, so eventually they shuffled it off to be owned by someone else and that stemmed the run.
@Alex – It’s interesting, but faith is a really tricky thing to restore. When “everyone knows” that the state pension won’t be paid “by the time we get to retirement” then you’re talking about a populace that believe (perhaps correctly) that the one thing neoliberalism means is right-of-centre (Blair included) governments trying to wriggle out of their responsibilities. Which would include deposit insurance…
(Not helped by the EU inspired shenanigans in Cyprus…)
Not helped by the EU inspired shenanigans in Cyprus…
Depositors in Cyprus knew, or should have known, that bank deposits above a certain level were not safe. They aren’t safe in this country anyway – every deposit guarantee scheme has a ceiling and I know perfectly well that if I have more than £85k in my account and my bank goes bust then I might only get £85k back. What happened in Cyprus was different in cause but not really in effect (and much less serious in extent; they only took 47.5% of deposits over €100k, IIRC).
As long as public money is not pledged then all well and good guaranteed and insure all they want. Maybe the banks auditors should be responsible after all they sign off on the accounts.
As Cyprus showed considerably less damage would have been done by a non guaranteed amount and an over all hair cut of all deposits. Rather than make random victims of people with cash balances and SMEs with payroll.
They should all be Bank if you dare unless they are willing to open up to scrutiny i.e. transparent accounts guarantee rather than actual guarantees. Continuing the current guaranteed world is otiose. It leads to a surfeit of risky behaviour by people who cannot lose – bankers. It costs the taxpayer more in the long term as well.