The wooden spoon award for clownish behaviour last year must again go to the banking industry, and particularly to European bankers, who were recklessly increasing their exposure to South Korea and the other Pacific Rim economies even as Japan was reducing hers. How is it that with sickening regularity, our bankers every few years seem to find a whole new system of black holes to pour their shareholders' and depositors' money into? Don't they ever learn? In the 1970s, it was property, in the early 1980s it was Latin American sovereign debt, in the early 1990s it was dodgy entrepreneurs and, yes, property again. Now its lending to the Far East.
One answer to this question is that bankers have to lend the money somewhere and every now and again some of it is more or less bound to go wrong. Nobody else foresaw the crisis in the Far East, so why should bankers? A very similar argument was used by NatWest in the early 1990s to justify extensive bad loans to Robert Maxwell. Bankers are not policemen, NatWest insisted, and there was no reason to believe Maxwell was a crook or had overstretched himself.
However, what both cases do in their different ways is highlight another aspect of bank lending - its ability to accentuate boom and bust. Bankers tend to feed the speculative bubble on the way up by pouring capital into it and then greatly enhance the subsequent crisis in the often disorderly struggle to get their money back which then ensues. Governments have traditionally been the main engines of the boom and bust cycle, but bankers tend to be the drive shaft. Nor do they ever seem to learn from the experience.
One possible explanation for this is that large banks are very rarely allowed to go bust. This is certainly the case in the developed world where there is an implicit understanding that big banks are essentially government-backed institutions; somehow or other depositors will always be bailed out if the bank gets into trouble.
In the South Korean crisis, we are beginning to see a variation of this implicit guarantee. So desperate is the South Korean government to preserve its reputation in international credit markets, such as it now is, that it is willing to contemplate the conversion of some commercial debt into sovereign debt. If bankers are never likely to suffer the full consequences of their lending decisions, then they can hardly be blamed for failure to act with due care and attention.
There is no obvious solution to this problem. If governments ceased to bail out banks, then it is possible to imagine a crisis like that of the Far East causing very considerable systemic damage with far-reaching consequences for the international economy. Nobody wants that.
Most suggested remedies suffer from clear drawbacks. Banks could, for instance, be asked to cross guarantee-each other, thus causing peer group pressure against poor lending. However, this would also restrict competition between banks and would be next to impossible to administer. Furthermore, such a scheme would not be dissimilar in its effect to the lifeboat operations central bankers try and arrange among collections of domestic banks when one gets into difficulties. There is no evidence that the enforced participation of banks in lifeboats prevents bad lending.
The best hope must be that, as bankers and capital markets become more sophisticated, transparent and wise, the problem will slowly prove self- correcting. To argue that in the Far Eastern crisis we may have seen the last of the great boom-to-bust seizures would be going too far. It is human nature to speculate. No amount of experience and regulation will stop it. All the same, policy-makers and markets the world over do genuinely seem to be getting better at reducing the severity of the peaks and troughs in the business cycle. It is not beyond the bounds of possibility that bankers too might be wising up, if only a little.Reuse content