A bank break-up to revive the high street

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Originally published in The Sunday Times.

The announcement last week that the Co-operative Bank is the preferred bidder for 632 branches of Lloyds is welcome news. It heralds a challenge to the banking status quo on the high street. But will the movement from a big five to a big six among our banks deliver the transformation of high-street banking that our economy needs and customers deserve?

The answer is no. Not when you compare our banking industry with those of our competitors overseas.

The highly concentrated British banking market stands out like a sore thumb internationally. Not because we have large global banks — others have those too — but because a tier of domestic banking is completely absent from Britain: local banks.

The idea that smaller local banks might provide the economic bedrock for businesses and consumers seemed rather quaint and old-fashioned during the banking bubble of the past two decades. After all, who needs local branch managers to assess loan risk with their knowledge of the applicant and the local economy, when mathematicians can manipulate spreadsheets until risk disappears? The future is in futures, don’t you know.

Since the financial crash, the merits of a vibrant system of local banks have become apparent. We need only look at, for instance, Germany, Switzerland and America. These economies not only have large global banks; they have an economically significant sector of smaller community-based and mutual banks — about 70% of the banking market in the case of Germany.

Studies of the German savings banks, a network of 430 independent but mutually supporting local institutions, show they have made modest but steady profits through both booms and recessions. The mighty Deutsche Bank, by contrast, plunged from huge profits to calamitous losses. The Swiss cantonal banks, focused exclusively on the economic health of their own regions, increased lending to small businesses after the credit crunch, the opposite of what has happened here.

That is the sort of bank that Northern Rock could and should have been, a bank focused on savings and loans for households and businesses in and around Newcastle. Not a Mini-Me international investment bank focused on pleasing the City down south.

Britain needs to create a local banking system, and fast, if we are to ensure businesses and customers across the country get access to sensible and stable credit and other essential banking services.

We need new banks founded on the principle of using credit to support manufacturing and start-ups over financial speculation and playing the commercial property market. Banks that are duty-bound to serve all citizens in their area and not leave the disadvantaged to the shady world of loan sharks and moneychangers. Retail banks that are not run by investment bankers.

The solution is already in our hands — Royal Bank of Scotland (RBS).

The government, unsurprisingly, is impatient to sell this 83% nationalised bank. But the health of the public finances depends ultimately on the health of the economy, and the health of the economy rests on the stability and usefulness of its banks.

The investment bank and international operations of RBS can be sold to recover a good sum for the exchequer, but for British retail banking operations, the clever long game is to keep RBS in public ownership on a new basis.

Let us devolve RBS into a system of locally governed banks — a local bank for every city and county. In the longer term these could stay publicly owned, placed into trust for the benefit of customers and local citizens.

The local banks could still enjoy the benefits of scale by sharing their back-office infrastructure and co-owning specialist finance companies to provide products such as leasing and insurance. But, crucially, they would be governed locally. Lending decisions would be made by managers who understood the economy around them better than anyone at London head office ever could. These managers could base their judgments on knowledge of people and businesses without being overruled by a computer or centralised targets.

Their success would be intertwined with the success of the local economy. There is no better alignment of interest. There would be no option to divert capital and management attention to chasing short-term speculative returns in financial markets.

Their mission would be to recycle savings locally and to expand credit for productive loans that benefited the local area, but to do so on a sound commercial footing.

It is time for a local banking renaissance. The next big competitor on the high street should be small.