Retail Banking – Why they don’t want your money!

The Basics

The fundamentals of retail banking were probably devised about 5 minutes after the invention of money.  It has been a business model that has remained relatively unchanged for centuries.

Simply the bank offers savers a return on any money deposited and then the same funds are used to source loans that are made at a substantially higher interest rate.  Profits are generated by subtracting the difference between the interest paid to savers from the interest received from borrowers plus any overhead, as follows:

To summarise:

Profit = Interest from Loans minus (Interest paid to Savers + Overhead)

Admittedly this is an oversimplification.  Payments are usually made on a monthly basis, but the principles are in place.

Banking Practices

All too frequently, with the possible exception of the UK, banks charge private customers for their services and especially on current accounts.  This seems to be doubly immoral from the author’s perspective because first and foremost customer funds are used to seed the bank’s profits and secondly next to no, or usually no interest is offered on such accounts.  In other words money from current account holders is used to generate profits and they are charged for it!

There are of course times when the bank should charge their current account clients for banking services.  The most obvious example being when a customer takes advantage of an overdraft facility – in this case the customer is actually borrowing from the bank and, as with any loan, interest should be applied.  The bank can also legitimately charge for any abuse of the account, so long as the bank demonstrates transparency, clarity and a clear appeals process in its practices.  Furthermore these charges should probably be punitive in nature, especially in cases of repeated offenses such as getting overdrawn or taking advantage of banking guarantees when knowingly exceeding limits

Interbank Lending

A great source of funding, in addition to customer deposits, has been the banks lending to each other.  This was a crucial element that contributed to the severity of the banking crisis of 2008.  When some of America’s biggest banks – for example Lehman Brothers – went bankrupt, funds that had driven the whole system dried up.  Many banks had become so dependent on interbank lending, even to finance operations, that this led to a catastrophic meltdown.  Coupled with bad investments and dropping share values the situation only became worse and bailouts were the only way to prop up the system.

Business Customers and Other Services

Banks also have the right to charge business customers for services provided, as these are additional services – beyond the basic – in accordance with the specific business requirements of the client.  Banks also offer an additional level of security and protection to any funds held and safeguard against money laundering or other illegal activities.  Banking fees, as expenses, can also be offset against profits for business clients to reduce their tax burden.

Why the Banks Don’t Want your Money!

However, for the main point I wish to make in this post, I must return to personal customers.  We have already established that retail banking uses funds from users – or so the theory goes – to generate profits and all too frequently they are charged for this.  The reality is that nowadays the banks don’t actually want your money!

How can I draw such a conclusion?  How could such a situation have evolved so that in the ten years since the banking system almost collapsed and the banks were screaming for bailouts that everything has so radically changed?

The evidence speaks for itself and without too much analysis.

Firstly, the banks offer interest rates to savers that are substantially lower than the inflation rate.  In other words keeping money in a bank account means that its value goes down in real terms.

You might as well keep your money in a sock under your bed!

Secondly, banks have to continue investing to grow and these funds must be sourced from somewhere.  Banks generate profits on the basis of interest collected on loans as well as wider more diverse investments, for example stocks and shares.  Funds can also be secured through interbank lending.  With this in mind the sums don’t add up.

Most of the banks that were almost taken down by the financial crisis of 2008 didn’t return to profitability until at least 2016, or in some cases as late as 2018, as they continued to haemorrhage funds.  So where did the capital come from?

It isn’t possible to draw any other conclusion other than the capital being used has come from the massive governmental bailouts, even if indirectly through interbank lending.  So taxpayers’ money is being lent to taxpayers to generate banking profits that are turned into owner dividends and excessive bonuses for senior managers.  The traditional way of generating profits for the banks was to use deposits to fund investments and generate additional income, but now – thanks to the bailouts – the banks have even found a way to bypass savers.

Now where is my sock…

© Richard Horton, Omega Support Services

The Financial Crisis – 10 Years On

Before starting it is important to make clear that I am not an economist nor am I a financial analyst.  However, I do hold some accounting qualifications and according to experts in the field I have more than a layman’s understanding of the subject.  Finally it is important to make absolutely clear that the opinions expressed within are my own and represent conclusions that I have drawn through observation and personal research.

Ten years on from the financial crisis of 2008, which almost led to a meltdown of the entire banking system it is worth re-assessing what went wrong and the lessons learnt with the benefit of hindsight.  I am convinced, ten years after the financial world crashed around us we had caused the problems ourselves.  This was compounded by the mismanagement and lack of regulatory control of the banks who lived by the motto ‘Greed is Good’.  This article will focus on two key elements that stalled the world economy and the resulting consequences that we are still living with today.

While less significant than the second factor I am going to start with the so called ‘Credit Crunch’.  In simple terms the Credit Crunch can be described as ‘maxing out’ our credit.  Credit had been cheap and readily available for such a long time and consumers had taken advantage .  This in turn had driven the economy and provided a lot of growth.  This sounds good until the inevitable happens,  As with domestic budgeting, if there is an overspend one month the belt must be tightened the following month.  In an economic cycle there comes a point when credit has to be paid back and more borrowing becomes unsustainable.  If enough people reach this point at a similar time demand for consumer products drops, growth is inhibited and the economy slows down.

Secondly and more significantly the domestic mortgage market ran aground, creating such deficits for the banks that losses became terminal.  This was particularly acute in the U.S. and a notable casualty was Lehman Brothers.  It is a well-known truism that when America sneezes the rest of the world catches a cold.

So how did this situation evolve?  In simple terms two things happened that cumulatively compounded the same outcome.  As often happens in economic good times a property bubble was formed creating a substantial overvaluing of properties.  This was further exacerbated by irresponsible lending when mortgages were been granted at more than the (already over-inflated) value of the property.  120% mortgages were not unheard of – the justification often being to cover renovations or refurbishing of the home by the new home owner.

Then the bubble burst.  The market went through a period of readjustment and house prices depreciated.  This created a situation of negative equity for home owners.  While not ideal this is not hugely consequential if only a few hundred or even a few thousand home owners subsequently default on their mortgages, but it becomes untenable for the financial sector when a million do so.  Historically, banks would have repossessed (or foreclosed) such properties to cover any potential losses.  What made 2008 so devastating was the perfect storm of overlending in a depreciating market that meant repossessed properties all too frequently did not cover the value of their associated debts.  The banks could only offload such properties cheaply and the resulting losses took the banking sector to the brink of collapse.

How was such a situation allowed to develop?

The simple answer is greed and irresponsibility on the part of the banks.  While some have suggested that the borrower is also responsible for borrowing beyond their means ultimately it comes down to the banks’ short-sightedness, focus on shareholder dividends, profits and greed.

To use an extreme example to make my point if I lend £100,000 to somebody who is unemployed is it really their fault when they default?  Yes of course it is and to suggest otherwise would be to avoid them taking responsibility.  However, if this is true it is even more my fault for not checking on their ability to keep up with the repayments.

Again –as above – let’s deal with the simpler issue first.  I would go as far as to say that the credit crunch was self-inflicted and tantamount to self-harming.

I first came across the term, Credit Crunch as early as 2002.  From time to time the media would run a story with dire warnings that catastrophe was impending, that it would come upon us a crunch and that we needed to get ready.

Forewarned should be forearmed!  Yet nothing was done to avoid or at least alleviate the crunch when it arrived.  In principle this is the same as getting a bomb warning and then ignoring it until it blows up in our faces!

This begs the question of whether anything could have been done.  The author’s view is a resounding yes, and what is more it may have reduced the devastating impact of the collapsing property market.

While tied to the base interest rate of a country, banks are free to set their own interest rates, but are restrained by the influence of the competitive market.  I would argue that an upward massaging of the interest rates would have had three positive long term effects for the banking sector.

  • Lending would have slowed down and greater control of borrowing would have been established, lessening the impact of the credit crunch.
  • Loans would have become more profitable and the banks would have earned more for doing less.
  • Customers would have been encouraged to save more rather than spend (see also my article on retail banking), which would have given bankers greater reserves when the bottom fell out of the property market.

So if a potential solution – or at least partial solution – would have been so easy to implement why wasn’t it?  The answer is stark in its simplicity.  Nobody did anything because everybody did nothing!

If a bank had unilaterally raised its interest rates it would have become less competitive and lost out as a result.  This would have impacted not only the profitability, but the share price, shareholder dividends and confidence in the senior management of the bank.  The responsible CEO may have realised it was the right thing to do, but the cost would have been their job and reputation.

Moving on to the collapse of property prices and the sheer number of defaulting homeowners the issue on one hand is more complex, but the solution is easier.  Banks need to lend responsibly and, as in the past bear in mind, two vital factors; the value of the property and the credit score of the borrower.  After these two factors are considered the bank should never lend 100% to give some contingency in the case of a collapse in property values.  The author suggests maybe 80%.  This will protect the bank in the case of a depreciating market while building a sustainable lending model.  However greed and the lack of effective regulation took over.  The more money lent the greater the profitability for the bank – or so the theory went.

Not directly related to this issue, but the media ran stories in the years following the crisis of banks deliberately creating a situation where small businesses wouldn’t be able to keep up with any loan repayments so the banks could then after  a number of defaults move in, acquire the properties and add them or revenues from their sales to their asset registers.  They were as trustworthy a den of thieves.

The whole banking system was sick!

What makes this worse was that the banking system had a warning shot of what was coming.  Not long before the whole system collapsed Northern Rock a small British bank went under for exactly the same reasons that brought about the financial crisis.  The message was clear from Northern Rock – adapt or die!

Particularly in the UK some banks were defined as being too big to fail and the government pumped huge amounts of finance in to stop the whole system from collapsing.  According to a TV interview with Alistair Darling (then the British Chancellor), Fred Goodwin (CEO of the Royal Bank of Scotland, the largest bank in Britain and one of the largest in the world) had warned that RBS was literally hours from running out of money*.  The British government agreed a bailout plan that ensured the survival of such entities.  In a similar way American tax-payer dollars were used to prop up the system.

The emphasis of governmental intervention was for the banks to continue to function, to lend and keep the economy ticking over.  Remember the now almost ubiquitous phrase ‘Keep Calm and Carry on’?  A little known and relatively obscure British propaganda poster from World War II had a new lease of life.

What did the banks do?  They virtually shut down the system.  They used the funds to consolidate and restructure (yes this was necessary), but they didn’t use the funds to keep the system going.  This issue is also discussed in my article on Retail Banking.  The world economy juddered and stalled while the banks licked their wounds, thinking only of themselves – this had not been the purpose of the bailouts.

Although impracticable to implement it seems to the author that the children should have their toys taken away from them for being very naughty.  Maybe the National Banks shouldn’t only set the base rate, but also set interest rates for the banks that are fair for all and take greater regulatory control of the whole system.

The cost would be the removal of competition from the market as the whole system is nationalised.  This opens a door that few would dare to pass through as it would increase state control of personal finances

A cynic could say, ‘The banks are rotten to the core anyway, so what does it matter?’

© Richard Horton, Omega Support Services 2018

* As seen on BBC documentary The Bank that Almost Broke Britian

Poland, Independence and the National Psyche

This article is based on generalisations and observations and therefore doesn’t apply across the board, however the author maintains that it largely represents a truthful perspective.  Although not the focus of this article Polish people have a lot of positive qualities too.

As the rest of the world commemorated the centenary of the end of World War I on 11th November 2018 another significant centenary was celebrated in a quiet corner of Europe.  The 11th November 2018 also marked 100 years since the re-emergence of Poland as a central European country 123 years since its disappearance.  This was also recognised elsewhere through the projection of the Polish flag on international landmarks (see images – courtesy of Facebook).

Polish Independence Day has become a controversial and frequently confrontational event in recent years.  Polish nationalists, egged on by populist politicians have hijacked celebrations and slogans like ‘Poland for Polish People’ and fighting has become a hallmark of the day, particularly in Warsaw.

However, before trying to understand how this has happened, it is important to provide some essential background that will also offer some keys to understanding Polish thinking.

Let’s start with this.

Polish people are often considered to be stubborn and proud and find it difficult to trust.  It is not uncommon to come across an attitude of ‘I will trust once it has been earned’.

This is contrary to how most people usually behave, as on the whole people trust until it is betrayed.  This trust is not a naïve blind faith, but can be considered in a similar way to a financial transaction.  I would happily lend an acquaintance £10-00, but think twice if I wasn’t paid back, but I would hesitate to lend the same person £100-00 until they established a track record.  All relationships start with a bit of trust, that grows incrementally as the relationship develops.  Can you imagine starting a romantic relationship with an attitude of ‘I will trust my partner once it is earned!’

Poles are fighters who will unite against a common enemy, but in the absence of such an adversary they will often turn on each other.  Although disappearing to some extent now, Polish people were often suspicious of others and success was considered only to be the result of corruption, criminality or some kind of unfair favour; the right connections or money.

Somebody once said to me, ‘Polish people are okay, once you accept they are basically rude’.  This may seem unfair but it is often borne out in real life.  At the risk of being unintentionally offensive, to generalise (and remember this is not in all cases – nor is it a purely Polish thing) Polish people seem to have a lack of awareness of others and a blinkered view that is focussed only on what they want.  Being walked into, or pushed aside by a supermarket trolley is not an uncommon occurrence nor is the incredulity that accompanies any challenge to any behaviours that demonstrate this lack of a wider awareness.

While this seems to be very biased and painting an unfair view of Polish people it is true enough to require greater understanding.  To do this we must understand something of how modern Poland came about.

Poland was reborn out of national trauma.  The 1795 partition of Poland had resulted in it disappearing completely from the map.  Consequently when World War I broke out in 1914 Polish soldiers found themselves fighting on both sides – some with Russia and others with Germany and Austria.  The interwar period saw Poland struggle to establish its national identity, and in doing so it bloodied Russia’s nose with an outstanding defeat and a moment of deliverance which is widely known as the Miracle on the Vistula.  Then just as the fledgling nation began to find its feet, its father, the hero Marshall Pilsudski, died.

In 1939 Poland was overrun initially by the German invasion and then finished off by the Russian attack on the east that destroyed any last hope of Polish survival.  In terms of percentages no country suffered more than Poland during World War II and in particular Warsaw suffered the consequences of two failed uprisings and the ensuing reprisals that left the city essentially destroyed and depopulated.

Poland then was ‘liberated’ by the Red Army and a Communist regime, tightly controlled by Moscow, was installed.  This regime remained in place until the winds of change swept through Eastern Europe in 1989 and the Communist Bloc collapsed like a house of cards.

So now let’s re-examine the Polish national and individual psyche in the light of this understanding.

Is it possible that Polish people have a problem with trust because historically they have been trapped in a vice by their neighbours?  Neither Russia nor Germany showed any regard to Poland or Polish self-determination.  Hitler actively sought to destroy Versailles which among other things re-established Poland and Russia was still smarting from its bloody nose in 1920.  Russia more or less reinvaded territories it lost during the 1920 campaign and never returned them – even to this day!  Even the partition of 1795 saw Prussia, Russia and the Hapsburg Empire cut up Poland with as much consideration as you would give to sharing a cake.

The Communist era would only have added to this breakdown of trust.  In non-totalitarian circumstances neighbours build (or don’t build) relationships with each other based on individual circumstances and there is freedom to build friendships or have disputes however it may be.

The Communist regime attacked the fabric of Polish society in two ways.  Firstly people were encouraged to watch their neighbours and the Milicja (the Polish Secret Police answerable to Moscow) were ever present.  How much informing went on, the author cannot comment on, but the risk of informing made people suspicious and unable to form normalised relationships.  Secondly the very nature of Communism that in reality meant some people were more equal than others meant that any success had to have come about as a result of ‘being in bed with the Communists’ or being part of the underground criminal fraternity– hence connections with success and corruption.

One of the great ironies of World War II is that Britain declared war on Germany in order to save Poland, but in the end Poland contributed greatly to saving Britain!  The truth is that nobody helped Poland in 1939 or provided any meaningful help in the Warsaw Uprising of 1944.  No wonder Poland (and Polish people) have trust issues!  Yet Poland contributed significantly to the RAF, most notably in the Battle of Britain and their troops bravery is still a matter of national pride with the outstanding victory at Monte Cassino.

And what about this lack of awareness of others?  Maybe this is not so much a lack of awareness, rather it is a very focussed self-awareness.  In other words ‘I will concentrate on what I need and that is my only concern.’  The older generation are at times the strongest example of such behaviours.  Imagine living in Poland – and particularly in Warsaw – during 1939-1945.  This was probably almost the worst place to live in the world during this time and if you were a teenager or a young mother at the time and went out to get bread jostling and fighting was the only way to ensure getting food to put on the table.  We would all agree that our immediate families come above others.

It is hard to change ingrained habits once established and when the war finished and the fight for necessities came to an end (bear in mind Communist era shortages too) the need to be combative didn’t.

Logically, Poland would seem to be the last place in the world for fascist views to emerge (remember Poland’s suffering).  However, there is little wonder that the far right in Poland use it as an opportunity to assert Polish self-dependence and national pride because they feel like they are standing up for Poland because no one else will.  Independence Day in particular provides such a platform.  While the author fundamentally disagrees with this nationalist stance it has come about as a result of the cauldron of national and personal experience that has defined Poland over the last 100 years. Stoked by politicians who are using nationalism for their own political gains (again sadly there is nothing unusual in this in the present day – consider both Donald Trump and Vladimir Putin) many of these people are unwitting pawns in a bigger game.

So to understand Poland and its people it is the author’s view that the individual psyche of many has been marked by the trauma of the nation.  We are all the product of our experience and this is reflected both on an individual level and national level.

© Richard Horton, Omega Support Services 2018