The banking and housing crises resulted from a change in banks' concept of value. Cash is the universal representation of value; however, cash is fixed while value fluctuates*. Four fundamental areas (structure, lending policy, attitude and profits) led this change.
In the 1946 Frank Capra classic film, It’s a Wonderful Life, Banker George Bailey begged his depositors to leave their money in the Bailey Bros. Building and Loan. George argued, “Well, your money’s in Joe’s house, that’s right next to yours. And the Kennedy house, and Mrs. Maitlin’s house, and a hundred others.” Unfortunately, that spontaneous, hands-on, local housing knowledge was lost in the deregulation of the 1980s and 1990s.
Structure
BNET’s business report, Changes in the Size Distribution of U.S. Banks: 1960-2005 said, “In 1960, there were nearly 13,000 independent banks. By 2005, the number [was]…half….In 1960, the ten largest banks held 21% of the banking industry's assets. By 2005, this share had grown to almost 60%.”
- Old Banks – were integral parts of the communities. Bank presidents, like George Bailey who lived in Bedford Falls, resided in these towns. Residents understood, in 1960s America, the mutual obligations banks and citizens had.
- New Banks – are borderless entities with multinational operations that robotically trade mortgage backed instruments from divergent locations with little local loyalty. Sovereign Wealth Funds, Deutsche Bank, Citigroup, Société Générale, AIG and other distant entities heartlessly own many American mortgages.
- Old Policy - prior to the 1970s, when Consumer Credit Reporting Agencies started selling their data to lending institutions, banks operated on a know your customer policy – personal banking relationships were mandatory.
- New Policy - By 1985 that personal policy was nearly completely replaced with impersonal credit scores that routinely revealed statistical data devoid of explanation and human intercourse. Harvard University economics professor, Dr. Stephen Marglin, says in his book, The Dismal Science: How Thinking Like An Economist Undermines Community; “In a world where markets… are sold… impersonal market relationships are substituted for personal relationships of reciprocity.”
- Old Bank – When George Bailey said to Ed, “…remember last year, when things weren’t going so well, you couldn’t make your payments? Well, you didn’t lose your house, did you...we can get through this thing all right; we’ve got to stick together.” Personal relationships of reciprocity existed until deregulation.
- New Bank - If Ed was 2 months late on his mortgage today, he’d probably received a call from Bangalore India’s delinquency call center demanding payment. Mass marketed calls that make cold payment demands; definitely an impersonal market relationship!
- Old Bank - financial gains were mainly local, society-based simple rewards. Banking operations revolved around cash-based investments.
- New Banks – moved to value-based profiting. Practices to increase value became far more important than “lending.” According to the Federal Reserve Bank of Atlanta by 1975 “…American banks’ roles as processors overshadowed their role as lenders.”
- Unique financial instruments were created by new financial institutions. Credit Default, Interest Rate, Currency and Equity Swaps had creators like Merrill Lynch, Bear Sterns, AIG, Goldman Sacks, and Lehman Brothers. Regan era banking deregulation was hastened in the 1990s with the Financial Services Modernization Act. Government demigods allowed brokerage houses, insurance companies and Bernard Madoff type hedge funds to become unregulated investment banks. The Gramm-Leach-Bliley Act permitted conventional banks and quasi-government institutions to enter the fray with impunity.
After deregulation of the late 1970s modern banking practices abandoned the conservative practice of personalized cash-based banking for the riskier abstract world of score-based valuation banking. Once a large portion of this process started losing value there became insufficient cash to continue banking – the crises
* This does not include foreign exchange rates and international currency fluctuations.
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