Banking system probe long overdue

Anthony Hilton
23 Jun 2009

The public is going to find it very hard to understand how the banking system can be on its knees one minute and earning record profits the next, how the Governor of the Bank of England can warn of the probable need for further injections of capital to restore the system to full health while some banks are earning record profits and planning a return to the excesses of the bonus culture and everything that goes with it.

It is as if the past 12 months had never happened. Forget the public, I find it difficult to understand.

Yet consider this. A few days ago, Barclays Capital head Bob Diamond said he hoped to turn that business into a global force in investment banking, capable of toppling Goldman Sachs from the top spot.

Barclays bought the American-based business of Lehman Brothers just after its collapse. It, plus the existing Barclays, gives him a platform with which to launch his bid to be number one.

In pursuit of this, he is hiring staff with an aggression that allegedly has put a floor under banking salaries despite the recession being at levels non- financial people can only dream of,

Separately, Goldman Sachs has indicated to its staff that the business is having a record first half, and they too should expect bonuses to match.

Last year, which was bad, Goldman still managed to pay more than $1 million to 973 of its people while at the same time receiving an injection of $10 billion from the US government. This year's numbers are going to be very much better than that.

Two things are happening here. The first is that there are fewer investment banks.

Lehman was the spectacular casualty but many more have withdrawn from sections of the market and scaled back their appetite for risk even if they still pretend they are open for business as usual. There is less capacity across the industry.

That means, while the total revenue pot is down on the record-breaking pre-credit-crunch years, it has to be shared among fewer mouths, Those still in business are making much more.

The second thing is more controversial.

Although it was the banks that wrecked the system, their help is needed to put it back together again.

The global uncertainty has created turbulent conditions in the foreign exchange markets from which they make large sums as traders.

Likewise, commodities and particularly oil, which is once again surging under the impact of financially driven speculation as global demand picks itself up off the floor.

Most of all, however, they are central to the money-raising efforts of companies and governments.

Companies need equity capital to reduce their reliance on now-scarce debt.

Governments need money to pay for the bailouts and compensate for the collapse of tax revenues as economic activity has slowed.

Banks know their services are needed. They know there is less competition, and they charge accordingly.

In conventional bank lending, they ration money and charge a lot for it, while in investment banking, they just charge a lot.

As one analyst noted: "They are the intermediaries in markets where governments and companies are raising billions of new money. There is a lack of competition, which means they can charge huge sums for doing business."

The interesting question is whether they will be allowed to get away with it.

For years, the suspicion has been that investment banks have operated like a cartel, in that while they compete ferociously for business, the competition never seems to translate into lower fees.

Though no formal collusion is alleged, they do seem to have an understanding that it suits them all to keep prices high.

In addition, they have networks that intimidate chief executives.

The latter could make a fuss about the charges but they don't want to make an enemy of the banks, or go on one of their blacklists which will put other jobs out of reach in the future.

And third, they go to huge lengths to cultivate government ministers. In Washington, they contribute massively to political campaigns, and this buys them influence and position in every administration, Republican or Democrat.

In London, they are in and out of Whitehall, close to civil servants, advising ministers and generally making themselves indispensable. So in neither town is there any political appetite to take them on.

This is where the system has gone wrong. In any other sector, where businesses made as much as investment bankers do, politicians would have concluded that the competitive market is not working properly and referred the sector to the competition authorities.

In Britain, the EU and America, there needs to be a monopolies investigation into the intermediaries in the capital markets to ascertain whether the system is working in the public interest or whether the participants in those markets exploit their position to make excessive profits.

Such an investigation should have happened years ago.

A further round of huge bonuses to bankers in the current climate may be just what is needed to make it happen now.