Monday, January 19, 2009

The Future of Banking

I thought of today's post as I remembered a stockbroker's question from almost a year ago: "Are you really concerned about having money at the bank?" I answered that his question was irrelevant, for investment/speculation purposes: the government would always bail out big deposit-taking banks. It was their business model that was entirely bankrupt. Ditto for earnings (losses actually), for as long as the eye could see.

You see, I was fully expecting the collapse of the "asset inflation-margin-trading" model of banking, particularly when derivatives boosted leverage and risk sky-high.

So, what now? What's the future of banking?

I know that while monster bailouts are flying fast and furious it may be a tad premature to talk about the future. But that's just me, always trying to be ahead of the curve... thus, bravely onwards.

Many readers may have come to the conclusion that banking has no future - particularly after observing recent price action for bank stocks (see chart below) and pondering the effect of ongoing nationalizations by governments all over the world (a.k.a. "bailouts").

S&P Bank Index

I am inclined to agree, at least for those institutions that still believe their future will resemble anything like the 2000-06 period. To them, I would point out that a 75% collapse in their share prices is a powerful signal that they should radically transform themselves. And that's only to survive, never mind thrive.

The question is, transform themselves into what? To answer, let's start with a few premises:
  1. Permagrowth is over. Sustainable is the new socio-economic model.
  2. Lending for consumption is over. Lending for transformation is the new strategy.
  3. Lending against financial assets (i.e. margin) is over. Lending against productive assets is the way forward.
  4. Ditto for real estate.
  5. Significant dealing room gains are over. Trading will once again be a facilitator of banking operations,not a mainstay.
The conclusion is that from now on banks will have to concentrate on making loans to smart and industrious enterprises that look to the future. Forget consumer loans, credit cards, auto loans and, yes, even forget mortgages - at least the kind made popular in the last 10 years. Also, forget the chop-shop model of packaging and selling loans as securities to clueless "investors". Credit risk will simply have to stay inside the bank.

The banking business is going to be MUCH smaller. Only the smartest and fittest will survive, those that think before they lend and scrupulously follow up regularly once they make the loans. Bankers will once again need to be hard-working business analysts with sharp pencils and heavily used "LOAN DENIED" stamps.

Corollary: The politicians' current calls for banks to once again open up the lending spigots are entirely wrong and highly dangerous. Such an occurrence will perpetuate the failed business model that got us into trouble in the first place and pile on even more problems for the future.

Post Script: On this, the last day of the Bush presidency, I have only one thing to say.

So long and thanks for all the fish.


  1. Don't forget to add one to the endless list of reasons to be annoyed with GWB: In his closing speech, he actually took credit for the economic *turnaround* - while, naturally, claiming that the economic crash itself was an Act of God. The God that GWB talks to daily, of course.

  2. I believe there is merit in the assumption that the average house price in a country can only be (in a perfect world) max 4 x the average income. F.i for Holland that would mean € 30.000 (av. income) x 4 = € 120.000. The average house prices are at the moment € 240.000, so they still have € 120.000 to go.

    But reading your article and your prediction of a total lack of future consumers loans, the factor 4 could well be 2 or 3.

    This would mean a wealth destruction for individuals beyond comprehension. Also, this cannot go unpunished for any society.

  3. According to ShadowStats, we have been at -GDP for the last 8 years. A recession throughout the entire Bush regime.

    ShadowStates latest flash update now says we are in a Depression. A 10% move from peak to trough.

    This illustrates two things to me.

    1. Bogus Government statistics.
    2. Total media control by TPTB.

    This is going to end so badly.

    Joe M.

  4. Bush and Cheney are both criminals. The former is a callous, semi-addled, overgrown adolescent, and the latter is simply a nefarious fat bastard. Both deserve to be vilified and shunned upon their imminent departure from office.

    Now, on to banking. I'm so glad you asked the question, Hell. What is (and should be) the future of banking? It's a wonderful question, but right now I'd like to suggest that we address the present state of play with respect to banking. Banking, especially cartelized banking, has become a super sized menace as we all know.

    To wit:

    Right now the Federal Reserve System (Comprised of the Fed, the regional banks, and its most favored insider member commercial banks) are looting, with the complicity of the (bought and paid for) legislative and executive branches, all that they can get their hands on.

    As such, I assert that these banks have forfeited their right to exist, since they are, in the aggregate, engaged in acts of grand fraud and theft. Furthermore, as they have utterly corrupted two branches of government, and by extension the third, they must be seen as enemies of the state. DOWN WITH THE BANKS AND THEIR GOVERNMENT LACKEYS! WE MUST MARCH ON WASHINGTON AND, IF NECESSARY, SHUT DOWN THE GOVERNMENT, BUT THE LOOTING MUST BE STOPPED, NOW!

  5. "The last official act of any government is to loot the nation."

    This is the end-game play, now underway.

    Joe M.

  6. "Banking, especially cartelized banking, has become a super sized menace as we all know."

    Whatever evil intent the banksters may have had seems to have become a moot point. The system has spiraled out of their control; out of anyone's control.

    I imagine the bankster's are now in the same boat as their previous prey and pondering the exact same questions. What's the future system and how do I act to survive/thrive in it? Given their past errors I wouldn't hold any more faith in their forecasting than I do in mine.

    Sustainable industy investing looks good so long as people behave lawfully. Little can be built without that foundation.

  7. Isn't the question "... transform themselves into what"? really the same you asked in an earlier post: "investors will be better off looking for The Next Big Thing. What's that?".

    Were I to put your two recommendations together, e.g. "alternative energy" + "... those that think before they lend and scrupulously follow up", I might come to the conclusion you want banks to get into alternative energy business analysis.

    And while I am a little more 3-D than only alternative energy, I do like the idea (Kudos... Indeed it is not all that dissimilar to my suggestion the other day "companies that figure out how to further specialize labor and get those specialists to work well together as a team... (will do well).")

    It kind of reminds me...

    A friend of mine, a managing partners at a large IT consulting firms, once commented on how there is a vast small business IT consulting services market, but the cost of sales and account servicing always made entry into the space prohibitive. He always felt the person to "crack that nut" would become the richest person in all IT.

    It seems your banking observation is really the same as his IT consulting observation. And (at least to me), it seems both problems have a "bottleneck" in our educational system. For the high cost of modern education, with a minimum expected ROI, means that ANY student who goes through our educational system at current prices must earn a minimally high salary to justify their education or the opportunity costs kills their investment (and government subsidies do nothing to change this fundamental fact). Below certain "recovery salary points", where educational ROI would be very poor at current prices, education is simply not worth the $/time.

    So it seems to me the solution is to lower the cost of education and it further seems you might have a commons to your alternative energy agenda with people interested in educational reform.

    ... Of course you will have to overcome a big hurdle today, which is how we have entwined breeding fitness advertisement (i.e "have my children, my genes are good, I went to Harvard" with basic social engineering issue of "how do we educate people effectively and inexpensively".

    Alas in a fractal world, one problem is always related to another.

    But if you really believe what you write, things like "Lending for transformation is the new strategy", focusing on education would be one strategy suggestion. And I would improve educational productivity, not focus on increasing educational subsidies (as one would work and the other wouldn't).

    ... Though the cynic in me still thinks they are going to repave potholes in Suburbia ;-)

  8. Reason for hope?

    I watched as CNN interviewed Obama last week, his last b4 today's nomination. Location was the floor of a wind turbine factory in Bedford Hts. OH.

    Politics? Of course. But I like his choice much better than Bush's choice of a nuclear aircraft carrier.

    ...and yes, banks should be looking to finance the Sustainable future, not hoping for a return of the Permagrowth-A-Go-Go. It ain't gonna happen, anyways..

  9. Thai,

    You wanna know how to offer high quality education on the cheap?

    Think PBS meets Wiki-Youtube.

    But... without the stigma of BORING attached to the PBS part. I don't know if you've ever seen Leonard Bernstein's Young People's concerts, but I lived with a conductor in Prague, and I got addicted to them (that and his 'The Unanswered Question: six talks at Harvard').

    I started illiterate and ignorant to everything musical (ok, that's a slight exaggeration), but Bernstein was able to explain everything from the ground up in a simple (though not simplistic) way.

    I see no reason (other than political ones) why a national education board couldn't find quality professionals to do something similar for THEIR field of 'expertise'. Now, I don't trust the government not to feed my unborn child state propaganda (the communist "potato bug" videos are fun to watch, but dangerously indoctrinating) So. After a K-12 video curriculum had been created, they could be put in use (as a supplement to normal classes), and then turned over to the public wiki style.

    If the "expert" who originally made the film left out a critical piece of information, OR if someone else could explain/ present the info better, they are free to create a video.

    At the end of every school year, a board of teachers (the larger the number the better, and divided by subject) could review any submissions and VOTE on which is the most educational.

    The 'winner' is given a one time stipend,

    And over the course of a generation (?), we would have created an incredible educational infrastructure (supplement). Which would form a (relatively) unbiased and BALANCED system of education. It levels the playing field by nullifying some of the effects of BAD teachers, and frees GOOD teachers to improvise and HELP students focus on their strengths and interests.

    Utopic, Maybe? Flawed, for sure. But it's an IDEA, and I only thought of it fourteen minutes ago... so cut me a little slack.

    Anyway... Thai... watch the bloody Bernstein videos. Music is (obviously) fractal, and at one point Bernstein actually describes Mozart's compositional style AS fractal, but without using the word (since I don't think it was even dreamed of in the fifties / sixties). You'll probably enjoy it.

  10. AND... come to think of it, forcing geometry teachers to sit around all summer and review videos of the same subject they teach during the school year is probably the best form of teacher training out there.

    They would see what does and doesn't work in terms of teaching style for THEIR subject


    it could all be posted for free on a specially designed .gov website, so that adults could go back and get a refresher course... think, JOB TRAINING for the unemployed.

  11. MIT has been putting courses online for FREE, for several years now.


  12. The banker job is certainly not a smart and sexy one in normal economic times.

    Delivering economic value is...

    I just hope that "delivering economic value" jobs will be delivering decent remuneration to the holders of those positions.

    If that were not the case, US may - as well as EC by the way - discreetly run into some sort of "latin America - old style version"...

    The more they dump money on banks, the longer they forget about jailing the auditors of 2007 bank P&L and fetching the bonus money back ... the more chances we have of such a situation.

    They are alas extremely high. At least on medium term - 2 to 5 years.

  13. Hell, could you please retype that link to classes - or post it as an anchor. Blogger cuts off the text..

  14. It's interesting to speculate on the future of banking at a time when globalization has put all of us basically in the same boat and is significantly contributing to the problem.
    I agree with the need to invest.
    Investment means risk taking, and I don't see anybody in the banking business ready to take risks.
    Maybe because the banking business is antithetical to the very idea of taking risks, it seems to me. By the very nature of banking, probably. This has always been so, and in my opinion, requires us to think about alternatives to the banking system itself.

    As for education, in many European countries, it costs the "user" (God, what an ugly word...) almost nothing, no or few personal loans to finance education, and nevertheless things are not any better than in the U.S.
    I think that the problem is mass, institutional education on the whole. The educational system in our countries is intimately linked to our political systems. It is designed to forge a nationalistic identity, while at the same time bolstering up that identity. It is only accessorily designed to provide an "education" or training for an economic purpose, contrary to what many believe...
    And these days, you can get an education (no I did not say a diploma, the nuance is enormous...) over the Internet for free. (Witness Hell's blog, right ?) No flesh and blood teachers (a pity, nevertheless), no tests, no exams, just pure unadulterated love of learning without all the tedious punishment designed to make the "corps social" feel good about itself, and useful.

    As I have repeatedly stated on this blog, French consumers (at least up until recently) have not been going into debt significantly to finance consumption, and traditionally, the big debt in a French household was the mortgage.
    But your plans, Hell, seem to sink consumer hopes for financing even a mortgage; How does anyone finance a home, even a worthless, cheap prefab one, without a mortgage ?

    Any clarifications on these points would be appreciated.

  15. "The banking business is going to be MUCH smaller."

    It will not be smaller, but conversely it will be concentrated, i.e. much of the banking in America is going to be controlled by a handful of large (often internationalist oriented) banks at the expense of local/regional ones.

    The name of the game is wealth centralization/concentration.

  16. Aw, shucks, I just HATE monopolies, in any form...