Hamish McRae: We keep getting the balance so wrong when it comes to banking

The big point here is we have to patch... there is no point in endlessly playing the blame game

If you tell banks they must be safer, don't be surprised if they cut back their riskier forms of lending. This inconsistency in public policy has just been highlighted by an outburst by Vince Cable, attacking the Bank of England for being "capital Taliban" in imposing higher capital requirements on banks, requirements that impair their capacity to lend to business.

I have some sympathy for his view because, as you can see in the top graph, the flow of funds to the UK private sector is abysmal. Indeed there is no net lending at all, and while the 12 per cent annual increase in lending at the height of the boom was bound to end in tears, having banks that won't lend anything does explain the sluggish nature of the recovery. But while there can be genuine concerns about the speed at which the Bank is requiring the banks to increase their capital ratios, the harsh truth is that having adequate capital is the core strength of any bank. It is the first line of defence when loans turn sour and if you want a system that will never have to be propped up by governments again, one of the two things they have to have is a solid capital base. The other? Cautious lending policies.

There is a genuine, and actually very interesting, debate about the balance between capital and caution. Some people argue that having a lot of capital is a less effective path to safety than lending only to people who are likely to pay back. Others prefer to stress capital adequacy. Of course, you have to have both and, of course, the key is pricing risk. There is nothing wrong with risky lending, for example for consumer purchases, provided you charge enough for the loan to cover the inevitable losses. You can see the write-off rates for different categories of lending in the other graph. Lending on property in the UK is inherently safe, whereas lending to consumers isn't. That is why we pay such high rates on credit cards. Lending to small business is somewhere in between, but note that while write-off rates on consumer lending have fallen back, those on business loans have not. Lending to a small business would now seem to be almost as risky as it was in the early 1990s slump, and more risky than at any time since the mid-1990s.

No wonder banks are cautious. It is an inevitable and understandable response to their over-exuberance five and more years ago and nothing Mr Cable says will change that. Indeed by attacking, as he put it some time back, "casino banking", he probably contributed to their present attitude. He intended by that remark to refer to investment rather than commercial banking, but their greatest losses have not in general been in investment banking but rather in commercial lending. The casino was, so to speak, a property development in the middle of Ireland.

This is not the only inconsistency in public policy towards the banks. The Government, reasonably enough, wants the best price for taxpayers' investments in the banks it rescued. Lloyds' share price is now higher than the price of the Government's investment, so we are in the money. Lloyds, incidentally, is now the second most valuable bank in Europe, having just nudged ahead of Santander. This is a tribute to its chief executive, Antonio Horta-Osorio, who was previously head of Santander's UK business. When the first tranche of our shareholding is sold, probably this financial year, he will have earned his bonus.

But the share price of Royal Bank of Scotland languishes. Why? Well it is partly that there was more rubbish to clear out, but also RBS has been subject to attacks by the Government and the Bank of England. Some of it was private over the lunch table: "Of course, they can cut back, but they have no vision for the future – that is why we will have to get rid of Hester," I was told by someone very senior in the world of officialdom.

The public attacks are something else. Thus Sir Mervyn King, when still Governor, called for RBS to be split into a "good bank" and a "bad bank". That was picked up by the Chancellor, and the Treasury is examining that. We will learn in September what they plan to do. Splitting off the duff loans from the ongoing banking business is a standard practice and can work perfectly well. But while there is a reasonable argument that RBS should have been split back in 2008, to bring it up now when it is three-quarters of the way through sorting itself out is nuts.

It is worse than that – it is destructive of the value of the bank. If you think there is a case for cleaning up things before the sale, you look at that quietly in private; you don't undermine management and staff with a half-thought-through proposal.

The big point here is that we have to patch the existing system rather than build one from new. It is unfortunate it is so damaged, though not as gravely as much of European banking, but there is no point in endlessly playing the blame game. If people have broken the law, that is one thing; if they have merely been stupid, that is another. There is always a choice between having a banking system that prioritises the safety of depositors and one that takes risks lending to businesses that may not be able to repay. We got the balance wrong one way and now we are probably getting the balance wrong the other. But we are inching in the right direction, and the sale of the first bit of Lloyds will be a signal of that.

Suggested Topics
News
peopleChildren leave in tears as Santa is caught smoking and drinking
Arts and Entertainment
A host of big name acts recorded 'Do They Know It's Christmas?' in London on Saturday
musicCharity single tops chart
Arts and Entertainment
Steve Backshall has become the eighth celebrity to leave Strictly Come Dancing
tv
News
people
PROMOTED VIDEO
News
ebooksNow available in paperback
Arts and Entertainment
tvStrictly presenter returns to screens after Halloween accident
News
peopleFormer civil rights activist who was jailed for smoking crack cocaine has died aged 78
News
i100
News
Boxing promoter Kellie Maloney, formerly known as Frank Maloney, entered the 2014 Celebrity Big Brother house
people
Sport
Dwight Gayle (left) celebrates making it 1-1 with Crystal Palace captain Mile Jedinak
premier leagueReds falter to humbling defeat
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Reach Volunteering: Trustee – PR& Marketing, Social Care, Commercial skills

Voluntary Only - Expenses Reimbursed: Reach Volunteering: Age Concern Slough a...

Reach Volunteering: Charity Treasurer

Voluntary Only - Expenses Reimbursed: Reach Volunteering: Crossroads Care is s...

SThree: Trainee Recruitment Consultant - Soho

£20000 - £25000 per annum + OTE £35,000: SThree: We consistently strive to be ...

Ampersand Consulting LLP: Markit EDM (CADIS) Developer

£50000 - £90000 per annum + benefits: Ampersand Consulting LLP: Markit EDM (CA...

Day In a Page

Mau Mau uprising: Kenyans still waiting for justice join class action over Britain's role in the emergency

Kenyans still waiting for justice over Mau Mau uprising

Thousands join class action over Britain's role in the emergency
Isis in Iraq: The trauma of the last six months has overwhelmed the remaining Christians in the country

The last Christians in Iraq

After 2,000 years, a community will try anything – including pretending to convert to Islam – to avoid losing everything, says Patrick Cockburn
Black Friday: Helpful discounts for Christmas shoppers, or cynical marketing by desperate retailers?

Helpful discounts for Christmas shoppers, or cynical marketing by desperate retailers?

Britain braced for Black Friday
Bill Cosby's persona goes from America's dad to date-rape drugs

From America's dad to date-rape drugs

Stories of Bill Cosby's alleged sexual assaults may have circulated widely in Hollywood, but they came as a shock to fans, says Rupert Cornwell
Clare Balding: 'Women's sport is kicking off at last'

Clare Balding: 'Women's sport is kicking off at last'

As fans flock to see England women's Wembley debut against Germany, the TV presenter on an exciting 'sea change'
Oh come, all ye multi-faithful: The Christmas jumper is in fashion, but should you wear your religion on your sleeve?

Oh come, all ye multi-faithful

The Christmas jumper is in fashion, but should you wear your religion on your sleeve?
Dr Charles Heatley: The GP off to do battle in the war against Ebola

The GP off to do battle in the war against Ebola

Dr Charles Heatley on joining the NHS volunteers' team bound for Sierra Leone
Flogging vlogging: First video bloggers conquered YouTube. Now they want us to buy their books

Flogging vlogging

First video bloggers conquered YouTube. Now they want us to buy their books
Saturday Night Live vs The Daily Show: US channels wage comedy star wars

Saturday Night Live vs The Daily Show

US channels wage comedy star wars
When is a wine made in Piedmont not a Piemonte wine? When EU rules make Italian vineyards invisible

When is a wine made in Piedmont not a Piemonte wine?

When EU rules make Italian vineyards invisible
Look what's mushrooming now! Meat-free recipes and food scandals help one growing sector

Look what's mushrooming now!

Meat-free recipes and food scandals help one growing sector
Neil Findlay is more a pink shrimp than a red firebrand

More a pink shrimp than a red firebrand

The vilification of the potential Scottish Labour leader Neil Findlay shows how one-note politics is today, says DJ Taylor
Bill Granger recipes: Tenderstem broccoli omelette; Fried eggs with Mexican-style tomato and chilli sauce; Pan-fried cavolo nero with soft-boiled egg

Oeuf quake

Bill Granger's cracking egg recipes
Terry Venables: Wayne Rooney is roaring again and the world knows that England are back

Terry Venables column

Wayne Rooney is roaring again and the world knows that England are back
Michael Calvin: Abject leadership is allowing football’s age-old sores to fester

Abject leadership is allowing football’s age-old sores to fester

Those at the top are allowing the same issues to go unchallenged, says Michael Calvin