Andreas Whittam Smith: Building societies should never have gone public

All the building societies that transformed themselves into banks quoted on the stock exchange between 1989, starting with the old Abbey National, and 2000, when Bradford & Bingley took the plunge, have either failed or had to be rescued. Following Bradford & Bingley's demise, there is not one left.

Meanwhile the building societies which resisted the temptation, such as Nationwide, Britannia, Yorkshire and 56 others, have gone on doing their core job of providing home loans for ordinary people. They have been virtually untouched by the financial crisis.

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Abbey National itself was taken over by the ambitious Spanish bank, Banco Santander. Alliance & Leicester found the same refuge. Northern Rock was nationalised. Halifax fell into the arms of the tiny Bank of Scotland, but that has failed to provide sufficient shelter from the storm and so Lloyds Bank is set to rescue them both. The Government is readying itself to take control of Bradford & Bingley.

The "demutualisation" of nearly a dozen building societies in the 1990s following Conservative legislation was a shameful episode. Reserves that had been built up during the previous 150 years were suddenly distributed as bribes to the lucky people who happened to be depositors at the time. This was to persuade them to vote in favour of changing their society's status. The capital that was thus thoughtlessly thrown away might well have saved these former building societies when they came to confront their first storms.

In seeking to explain why the demutualisation of building societies has been calamitous, it is well to remember that the financial services industry is different in two respects from others. In the first place, its customers cannot quickly ascertain whether they have made a wise purchase or not.

The fire insurance policy will only show its worth when you make a claim. You must reach retirement to discover whether your pension scheme is effective or not. Even the appropriateness of a home loan isn't established until some time after you move in to your new property. This time lag allows suppliers to get away with bad practices for quite some time.

Second, a significant number of financial services providers have their origins in the self-help movements of the 19th-century. Every one of the firms I have mentioned is an example. In the provision of life assurance, to take another case, Norwich Union and Standard Life were mutual societies until relatively recently. Other industries have no such tradition.

There are no mutual societies doing such things as making cars, or providing mobile telephone services or owning hotels nor have there ever been. In those industries your customers test you every day. In financial services they do not, and that is why the mutual society model, where customers automatically become members and can hold management to account, has persisted, albeit in an attenuated form.

The difference in ethos between a mutually owned provider of financial services and a shareholders controlled enterprise in very great. In the former you are concerned only with your customers' needs; in the latter your task is to make money out of your customers. I don't wish to be absolutist here. There have been very poor mutual societies, of which the Equitable Life was a notorious example. And there are very good shareholder owned suppliers. Aviva, Legal & General, Prudential, Barclays, Lloyds and HSBC are all, alike, well run. But the difference remains.

The problem for the former building societies was that they were small and under-capitalised. They needed to grow quickly in order to compete with the high street giants. They tried to establish distinctive ranges of products that have sometimes turned out to be unduly risky. Thus Bradford & Bingley specialised on the buy-to-let market and on borrowers who were self-employed. The latter were allowed to "self-certify" their financial strength. Northern Rock gave out 100 per cent mortgages plus unsecured loans equivalent to a further 25 per cent of the value of the property.

Now both companies are experiencing above average arrears and repossessions. At the same time, the former building societies, because they lacked scale, came to depend too much on raising funds from the wholesale money markets around the world, whose gradual freezing over during the past 12 months has finally left them stranded.

Providing mortgages to homebuyers is a simple business. It is not an activity that requires whizz kids. It is akin to a public utility. It is best done by traditional building societies and that is where the whole activity should eventually end up.

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