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Despite numerous bank failures in the recent past around the world, and the grubby, shady deals regularly entered into by bankers, it is, by and large, a pretty respectable profession. It is one that many young people still aspire to, and it is an industry no economy can do without. The odious aspect to the profession owes its origins to history. Bankers started out as a bunch of self-serving money changers. The biblical reference to the role of money changers is unedifying, as they once incurred the wrath of Jesus Christ himself, who angrily chased them out of the Temple. “Banco” is the Italian word for bench. In ancient times, money changers would sit on it whilst displaying their wares to customers. Their initial institutional customers were the old merchants (remember merchant banks?), who needed deposit facilities to store their precious metals, especially gold. The money changers soon realised that these deposits could be recycled and put into other commercial and industrial activities. As long as they do not deplete the deposits in their custody, they could carry on generating lucrative trade for themselves. The rest in the development of modern banking is history.
However, the problem then, as now, is what to do if the depositors start retrieving their gold and precious metals simultaneously? Short answer is they go bust. Whenever that happened to the money changer-cum banker, in the past, the bench, i.e. “Banco” on which he sat was symbolically broken in the open for people to see. This was known as “Bancarotta” or, a broken bench, otherwise called bankruptcy in today’s parlance.
The process whereby people withdraw their deposits simultaneously is called a bank “run”. Bank runs are generally understood to be a terrible occurrence, but the process also, paradoxically, provides the means to eliminate inefficiency and bad (toxic) investment or asset from the system. Closure is the result of irreconcilable problems in a bank’s fundamentals. More often than not, financial authorities tend to step in to save a bank under stress because of the risk of contagion, that is, the possibility of a closure spreading like bush fire onto other banks, creating a systemic risk for the whole sector and beyond. Nowadays, though ordinary customers enjoy a degree of protection from bank runs. Their deposits are often guaranteed by the banking regulator up to a certain amount. Institutional investors in the banks, however, are more exposed to all types of speculative runs. It is the game they understand and indeed, enjoy playing. They look and model the action of other players in the game on their computer software, and try to anticipate what the other may be up to at a given period. At times, they join in the stampede of mass withdrawal and other times they ignore such.
A good example of this was provided by the Hungarian hedge fund manager and philanthropist, George Soros, in September 1992. By the way, hedge fund management simply means a private investment house, where people with gargantuan amount of excess cash deposit their money to be used to make even more money, by playing high-risk and highly rewarding bets on the exchanges. The amount involved is usually so large that placing it in the run-of-the-mill commercial bank for a pre-determined interest rate makes no sense. When the calculus comes right for a hedge fund manager, it comes really big, and when it goes wrong, well, billions of dollars could go up in flames in minutes. Soros, whose family brought him to London, fleeing Communism in his home country of Hungary in the 1960s, graduated from the London School of Economics, and thereafter set out to play the capitalist game of making money. He soon made enough to set himself up for life in the UK, but he wanted to apply his canny to something bigger and even more exciting. So, he left for New York, in the United States, whereupon he coaxed enough wealthy individuals into entrusting their money unto him to “manage” (or gamble with), depending on your taste and financial sense. His big break came when, in 1992, he put all the billions of dollars at his disposal into betting against the UK staying in the Exchange Rate Mechanism of the European Union. This prompted a run on British banks, and the government intervened multiple times with a hike in interest rate to put a brake on the outflow of capital from the UK economy. Undeterred, Soros threw even more billions of dollars at it, steadfast in his hunch that the UK would be forced out, then, others joined in the stampede which, true to prediction, eventually forced the UK out of the ERM. Soros and his clients became multi-billionaires instantly. How I wish I had his genius!
Interestingly, when Malaysia was going through a similar financial turmoil and became aware of a rumoured plan of Soros’ imminent trade on their exchange, the Malaysian Parliament hurriedly passed legislation to impose the death penalty on anyone caught speculating on their hard won effort at stabilising their currency. Soros, then in his late 70s, understandably opted not to take a chance, and has since returned to Hungary a hero with his “loot”.
In a situation like we have just discussed, it is always open to the country’s central bank to step in as the bank of “last resort”; a view enunciated by none other than the English economist, Walter Bagehot (1826-1877), who advised central banks to, among other things, announce in advance their readiness to lend to banks without limits to make them stay solvent. This doctrine was first put into practice by the Bank of England in the “Barings crisis” of 1890. Others around the world have since followed the logic to this day. The Central Bank of Nigeria has carried this responsibility furthest. It has moved from simply being a regulator to supervisor of banks in Nigeria. It imposes term limits on Chief Executive Officers of banks, suspends and dismisses management of banks at will, countermands major investment decisions made by banks, etc. In addition to this, the CBN has the additional support of the country’s Assets Management Corporation of Nigeria, whose primary function is to “manage” (take over if you like) the assets of any entity critical to the economy, found to be in distress. Nothing could be more cast-iron for the solvency of Nigerian banks than this, you might think?
Well, risk-taking is part of the raison d’être of commercial banks, it is written in their DNA. This, however, is more apparent than real in the case of Nigerian banks. The CBN ought not to overegg their supervisory remit too much lest it stifles thrift and innovation. Moreover, try as the CBN might, Nigerian banks cannot be protected from the headwinds of globalisation and the constant clarion call for deregulation in international finance. Moreover, increasing penetration of financial services by non-banks, providing high-quality banking services will eventually force the banks out of the CBN’s protective (comfort) zone. By any acceptable yardstick of international banking services, Nigerian banks live a much sheltered life at the moment for a good reason; they have ran amok before, costing the Federal Government a whopping one trillion naira to bail them out. That said, the current philosophy of the CBN to the effect that any bank in Nigeria is always worth more alive than dead is untenable in the long run.
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