Banks aren’t supposed to be your friend
February 23, 2008I was just watching one episode of Channel 4’s documentary “Dispatches” that examines the root causes of the subprime crisis and the financial meltdown that followed.
Close to the message the documentary was supposed to bring across, it was called “How the banks bet your money” and I somehow knew there were going to be a number of things I would disagree with.
In one way or another, the documentary blames banks, credit rating agencies, regulators, governments and banks again for what has been an enduring theme across the public press for the last 6 months. The banks are blamed for creating the product that made the crisis possible and for becoming a victim of their own greed for higher and higher margins and the profits that were hoped to follow. The credit rating agencies are criticised for rating these financial products with one of their best ratings available in the market (S&P’s AAA-rating) and hence creating the fallacy that those products were inherently low-risk while at the same time understanding little of how they operated and apparently receiving payments from banks for these individual ratings. Gordon Brown is reproached with decoupling the financial regulation from governmental interference and thus having created a tripod of financial supervision. The FSA is accused of not acting in a way it was expected to when Northern Rock became a problem. And the list goes on…
Overall, I’m not disagreeing with many of the rational arguments that are being made in this documentary. I am, however, disagreeing with how it is presented and what misconceptions it will cause with people who don’t have a thorough understanding of how financial markets really operate (i.e. the majority of the population).
The suggestion that the invention of collateralised-debt-obligations (CDOs) was purely evil and driven exclusively by the bank’s greed is an immense exaggeration that fails to own up to the positive effects that financial innovation brings. The banks merely created the vehicle that was subsequently abused - and I’m not disputing that greed led to this abuse. Without financial innovation we wouldn’t be as developed a nation as we are. We wouldn’t have access to all the financial products we take for granted if it wasn’t for banks’ natural strive to create newer, better and ultimately more profitable products.
Credit cards are the best example - they’re not inherently evil. It’s just people’s misjudgement of their own abilities that can turn them into a harmful invention. Technically speaking, credit cards provide you with a 50-day interest free loan every month. It is not their fault that you think your cash supply is limitless.
Similarly, nobody forced people to take out mortgages they couldn’t afford. Of course the bank will try to sell you something they’ll eventually make a profit of. That doesn’t mean you’re supposed to blindly trust everything your banker is telling you. If you don’t feel you fully understand what you’re signing, then just don’t sign it.
The important side effect that people seem to ignore is that it also gave those people that didn’t have a long credit history the opportunity to own property while a few years back no bank would have even bothered to see that they might be eligible for a mortgage. It gave people who understood their limitations (!) the opportunity to buy their own place despite never having owned a credit card or never having taken out a loan. It’s not a flaw of the product that made people take out mortgages that were far to expensive for them in the first place. It’s also not the product’s fault that people wanted to own properties that were way out of their realistic budget.
If you expect that your bank will lecture you about what you can and cannot afford, then you’ve missed the fundamental principle of capitalism. At the end of the day, a bank is a company like any other that can only exist if it returns a profit at the end of the year. After all, Walkers doesn’t tell you to stop eating their crisps because they’re bad for you either. Don’t expect banks to operate as a super-human institution that would rather see it’s customers be happy than return a profit.
