Making banks fit for purpose

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The advent of ‘credit easing’, set out in the Chancellor’s autumn statement, was trumpeted as a huge innovation when he announced it at his own party conference two months ago.

We had been led to expect a more effective version of quantitative easing which was directed at new enterprise rather than pumping up the bonuses of our bankers.  What we actually got was interesting – but not nearly so exciting.  

We got a series of guarantees, worth about £40bn – unfortunately only directed at medium-sized companies which can probably access bank lending already – which guarantees cheaper loans.

It guarantees that banks can borrow money at much lower costs which they can (fingers crossed) lend on to smaller business.  It also guarantees the other end of the deals, the loans they make to the businesses themselves.

In fact, it guarantees every aspect of this function that everyone – apart from the politicians – knows that our highly centralised banking system is quite unable to do: support the economy by lending to small business.  You wonder why they bother with the banking structures at all – why not take them into public ownership?  Why not bypass them?

Which means that credit easing marks a belated recognition, even in the ivory towers of Westminster, that the banks cannot lend in that sector because they are no longer geared up to do – they are not fit for purpose for the key purpose we need them to fulfil.

But then the UK banking sector is not like the banking sector in similar economies.  Ours is monopolistic, highly centralised and ineffective.  There is something similar in the USA, France, Germany and Switzerland.  But they have something which we don’t – a highly decentralised, mutual lending network which is also highly stable – and which does the job for the economy.

This is the basic message of this afternoon's conference on local banking.

Among other solutions, it will look at an old model which is getting people excited in the USA: partnership banking – partnership, that is, between the public and private sector.

The Bank of North Dakota was set up in 1919 – the same year that Neville Chamberlain launched the Birmingham Municipal Savings Bank along similar lines – in response to a wave of farm foreclosures at the hands of out-of-state Wall Street banks.  It is profit-making, and has contributed over $300m in dividends to the state’s coffers over the past decade. 

The main role of the bank is to partner with local banks to provide the loan finance for small business lending on specific deals.  Their lending portfolio of $2.8bn is mainly these participation loans, which allow local banks to make more loans. 

The story is set out in a fascinating new publication by the American think-tank Demos.

That is why North Dakota has 35 per cent more local banks than South Dakota and four times the US average. There have been no local bank failures since 2008 in North Dakota, and no bank in the state has more than 10 per cent of local deposits – the existence of a powerful ‘partnership bank’ has succeeded in underpinning a diverse banking system there. 

Other states are planning similar institutions.  Oregon, Washington and Massachusetts introduced bills in their state legislatures in January to launch their own state banks.  Maryland has followed suit since. Illinois, Hawaii and Virginia are already looking into the idea. 

Virginia has gone even further, giving itself the power to issue its own currency in the event that the Federal Reserve defaults.

The question is: why is Britain – so imaginative and creative in so many other fields – so slow at imagining an effective banking system?