As the banking system begins to put itself back together it is becoming apparent that everything has changed.
Up to 2008 banks provided almost all lending in the State – from small loans to huge loans – from individuals needing €5,000 to decorate their homes, to property acquisition in the hundreds of millions of euro.
The problem with this model was that banks were trying to play 2 mutually exclusive roles.
On the one hand they were supposed to be providing stable low risk credit to the retail market. The source of this funding were the deposits trusted to the banks and a bank’s sacred duty is to preserve deposits. They failed utterly in this duty. All depositors in Irish banks would have lost every cent were it not for the taxpayer bailout.
At the same time they were financing the huge sums demanded by the speculator led real estate market.
In the end they were truly compromised. The developer, who had borrowed a hundred million euro, needed individual borrowers to buy his stock or he went bust. The banks were on both sides of this transaction – lending ridiculous amount to individual borrowers to repay hugely indebted developers – and the result was catastrophic.
Looking to the future the banks should not be involved with large scale inherently risky developments. This is not the place for retail banks to be operating. This space needs to be filled by private capital and this is precisely what we are now seeing. The funds are perfectly placed to provide the finance required for the building of offices and large developments. They present no systemic risk the economy – if they go bust it is a private loss and will not be heaped onto the community. Generally they are small operators with great care given to investment decisions unlike the behemoths banks throwing money out like confetti.
But the lure of big finance and big profits will be hard for bankers to resist and banker ego will have a role in all of this.
In the United States main street banks provide a small fraction of commercial lending – and so it should be. In Germany the retail banks such as the Sparkasse are old mutual type organisations whose sole function is to provide credit to the retail and SME market – they are organisationally structured to avoid the madness when it comes and so they last for hundreds of years.
But in Ireland the main banks try to be all things to all people and that is a serious flaw in the system.
The emergence of private funders in the commercial market is to be very much welcomed and expanded. The banks should stick to what they are supposed to be doing – preserving deposits, providing a payments system, and offering low risk credit to the retail and SME market.