April 30, 2008 | posted by Michael Baxter in Banking, credit crunch |

All change please.

Not so long ago, banks were dynamic places of high risk but high reward. 

Shareholders liked their banks when they were full of “innovative, exciting activities.”  Those which adopted a more cautious approach were “often pilloried for being boring.”  Who said so, why none other than Mervyn King, yesterday, when addressing the Treasury Select Committee.

But banks were basing their decisions on “very poor assumptions.”   He said, “Banks have come to realise they are paying the price for having designed compensation packages that provide incentives that are not in the long-run interests of the banks themselves.” “We must make sure it doesn’t happen again,” Mr King added.
 
“I think all of us – and I do not exclude the Bank in this – have learnt a lot of lessons from the last nine months.”

It’s been hailed as an attack on too much risk taking by the banks.

But actually, the real problem was not too much risk taking at all.  Progress, especially technical progress, needs risk taking.  Without apparently reckless risk taking, maybe we would never have left the trees.  Without the billions spent on defence in the last century, technical progress would have been held back. 

The real problem was short-termism – rewarding bankers for decisions based on short-term performance, and too much emphasis on lending to the wrong areas.

Banks were reckless with their lending to homeowners and property investors – because they failed to grasp that just because a loan is backed by property, it does not mean it is secure.