From boom to bezzle: this banking scandal will run and run

 
Allister Heath
CAN it get any worse for Britain’s banks? Well, yes. Much, much worse. Not only is Barclays merely the first firm to settle when it comes to the despicable Libor scandal – others are also being investigated – but the FSA is about to announce that it will penalise a number of banks for a separate scandal which involved misselling swaps to small businesses. In at least some cases, retail bankers talked absolute nonsense to their customers, telling them they couldn’t lose out when they obviously could and did.

This is a perfect storm for the banking industry, and one from which it will take years to recover. Just when it seemed the industry was on the mend, this latest blow could set it back years. And this time those institutions being targeted actually deserve the opprobrium they are getting. The behaviour of a small minority of staff was disgusting, and should have been checked by senior management. Those of us who believe that we need a strong, healthy and honest City, for the sake of hundreds of thousands of jobs and of the UK economy, have the right to be very angry at the idiocy of many individuals and institutions. Ordinary City workers in banks, fund managers, law firms and other related industries are especially entitled to be furious.

It is vital that all banks deal with their problems, and that heads roll. It beggars belief that Bob Diamond thought all those months ago that the time for contrition was over for his industry. He must have known he was sitting on the Libor scandal.

But it is important to understand what is really going on. I’m no fan of John Kenneth Galbraith, the US economist. But he was right about one thing: at the height of a bubble, a punch drunk world becomes so wealthy that it turns a blind eye to financial crime (embezzlement, or the “bezzle). But when the music stops, and the crash comes, everybody suddenly uncovers past scandals. It is worth quoting him at length: the bezzle, he said, “varies in size with the business cycle. In good times people are relaxed, trusting, and money is plentiful. But even though money is plentiful, there are always many people who need more. Under these circumstances the rate of embezzlement grows, the rate of discovery falls off, and the bezzle increases rapidly. In depression all this is reversed. Money is watched with a narrow, suspicious eye. The man who handles it is assumed to be dishonest until he proves himself otherwise. Audits are penetrating and meticulous. Commercial morality is enormously improved. The bezzle shrinks.” We are now at this stage of the cycle.

Yet while the discovery of lies is shocking, it will inevitably confuse our understanding of the boom and bust. The wrongdoings were overwhelmingly the product, not the cause, of the bubble. Of course, they contributed to the subsequent pain – but only marginally. There would still have been a sub-prime crisis and a recession had everybody behaved legally: it was US government policy to subsidise mortgages for those who couldn’t afford them. It would have ended in tears regardless of whether everybody had been honest or not. Greece would still be bust even it hadn’t lied about its deficit in the run-up to euro membership. Others made honest but terrible mistakes. And so on. It is vitally important to crack down and punish wrongdoing – but doing so won’t prevent another economic crisis. The two problems need to be tackled in parallel.

The biggest issue is this: this latest outburst of self-harm from the City is bound to hinder the recovery. It will make all of us poorer. It will prolong the crisis. It is very, very bad news.

allister.heath@cityam.com
Follow me on Twitter: @allisterheath