Only a major cultural shift in banks will end meltdowns

Over the past few days, politicians and regulators have reassured angry and bruised taxpayers that another bank meltdown will never happen again.

Given that costs to the State have reached €64bn for bailing out Anglo Irish Bank, Irish Nationwide and the other domestic banks, the hope is that these assurances prove correct.

However, a brief look at the recent history of financial markets would suggest any guarantees of this nature are meaningless. Renowned economist Liaquat Ahmed wrote a masterful account of the years leading up to the 1929 Wall Street crash and the subsequent depression. The book, Lords of Finance, forensically details the irrational exuberance that gripped the stock markets and banking sector, followed by an unprecedented level of inter-governmental agreements aimed at introducing legislation to ensure the same mistakes were not repeated.

However, the book coveys very effectively the similarities with the decade leading up to the financial meltdown of 2008.

The recent banking crash is still an open sore in this country, as indeed it is throughout many western economies. But when the economy returns to normal and the good times return, will the resolve to keep the banking sector at bay hold?

There are important changes looming for banks across Europe that will have huge implications for this country and, even though EU banking union has been watered down, there are reasons to be hopeful it will be effective.

Criminality at senior management levels in the Irish banking system was a symptom, not a cause of the crisis. The biggest single factor that stoked the credit-fuelled bubble was joining the euro. The single currency prompted a massive glut of money to spread throughout the region. From big investment banks to small standalone banks or credit unions, access to cheap money was the click of a button away. Everybody binged.

Unfortunately, regulation was a competence of national authorities. In Ireland, the prevailing wisdom was that ‘light-touch’ regulation was the best approach.

Now, there has been a complete overhaul of regulation across the EU. The ECB will take over direct supervision of the Irish banks. There will be strict new rules on how quickly balance sheets can grow and how much exposure a bank can have to any one sector, such as property.

Perhaps, most importantly, if banks are supervised from Frankfurt, then it ensures that even if there is an unhealthy relationship between politicians and bankers, it’s unlikely to have any influence on policy.

Also, even if a bank fails, a new ‘bail-in’ regime will see that taxpayers are saved at the expense of investors.

Finance, however, is characterised by high levels of innovation. The finance industry has plenty of money to employ lobbyists to persuade governments to repeal some of these regulations.

In years to come, it could well be that ‘light-touch’ regulation is again seen as good. If so, there will inevitably be another Anglo Irish Bank or Irish Nationwide on the horizon.

But one feature of the banking crisis was unique to Ireland: The absence of corporate governance and risk-management practices at boardroom level.

If people in powerful positions want to do bad things, then they will find ways. That is why an ethical framework and commitment to fairness have to be embedded in the culture of Irish banks. A good place to start is the business schools.