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February 5, 2009 The Demonization of Banks
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The global financial landscape is changing rapidly and perhaps nowhere more
so than in the U.S. An industry that once (in 2006) accounted for 22% of stock
market valuation in the U.S. (30% in Canada), 6.1% of U.S. employment (6.4% in
Canada) and 26% of corporate earnings (33% in Canada) is now dwindling rapidly
with nary a concern in Washington or global capitals anywhere. To be sure, the
G-20 officials have agreed to save any institution whose failure would cause
systemic risk, but in so doing, there appears to be no concern for the
shareholders or employees of these companies, despite their enormous
contribution to innovation, growth, emerging-market development, community
development, dividends and earnings.
Financial institutions have been a major source of hiring and training. They
provided stable, high-paying white-collar jobs, training generations of young
people in fields from finance to risk analysis, real-estate appraisal to
front-line sales, arguably creating the great middle-class in the service
economy. This sector has provided considerable upward mobility and has been one
of the few bastions of continued defined-benefit pension plans, health care and
other benefits, and career opportunities. Financial institutions have been to
the service economy what automakers were to the postwar manufacturing
economy.
Also importantly, these institutions were major contributors to community
reinvestment and philanthropy. Financial institutions have long been enormous
givers and sponsors of the arts, education, health care and charitable
endeavors. Their employees have been community leaders in volunteer activities.
As well, they have been an important source of business start-up financing,
first-time home-buyer mortgages, corporate and commercial lending, wealth
management, revolving and non-revolving consumer credit and so much more. The
financial villains of today have been innovators in IT, financial engineering,
insurance, enhancing purchasing power and risk management. Many are
multinational corporations with offices all over the world, helping to enhance
and develop private sector financial markets. They are also advisors to
government, primary dealers of government debt and increasingly have provided
financing for public projects. In emerging economies, these multinationals have
provided expertise and financing.
Financial institutions for more than 60 years have been a long-term source
of dividends and earnings for investors. While a cyclical industry, in the
main, many of these companies offered relatively stable blue-chip returns for
conservative investors, pension funds and other investment pools.
Of course, the excesses and leverage of the past decade have, in hindsight,
caused enormous damage. But the demonization and witch hunt they currently face
ignores their contribution and the cost to the economy and financial flows
their downsizing and regulatory and governmental shackles will produce.
Today, their name is mud. They are eviscerated everyday by elected officials
and talking heads in the media. To be sure, many of these institutions took far
too much risk, more than they realized, and many garnered out-sized and
unsustainable returns. Top management in more than a few became disconnected
from their mainstream businesses and greed overtook prudence to too great an
extent. The focus was too much on short-term results with apparently little
care for longer-term performance, a fundamental that was encouraged by
Sarbanes-Oxley and the bastion of analysts and investors that rewarded
short-term upside surprises and punished long-term strategic moves if they were
at the cost of short-term results.
In the past 20 years, financial institution management and employees were
increasingly compensated with their company equity. The goal was to match
employee interests with shareholder interests—and indeed it did. But,
ironically, today the management, employees and shareholders of these
companies are of no concern to the policy makers or the public at large.
Indeed, they are seen as perpetrators and accomplices to the global
meltdown.
Little attention has been paid to the financial-institution Boards of
Directors, not to mention the regulators, central bankers and government
officials who watched the risk-taking happen over the course of years and not
months. The directors of financial institutions are among the
‘who’s-who’ of the business elite worldwide. These well-paid
boards have long been the part-time-gig-of-choice for retired politicians,
corporate law partners, business and finance professors, accounting partners,
and acting or retired CEOs. Their fiduciary responsibility is to protect the
shareholder and their compensation committees determine CEO and senior
management compensation and their risk and audit committees provide oversight
on behalf of shareholders; but, to date, there has been little attention in
their direction.
Currently, many of the largest banks and investment banks in the world are
laying off tens-of-thousands of workers. Many of these workers are within a
decade or two of retirement. Their nest eggs have vanished with the stock value
of their companies, as well as with the general decline in asset values. Most
of the jobless in financial services are unlikely to find similar work in that
industry again as capacity shrinks. These formerly middle-class (and
upper-class) people were prime borrowers who now cannot make their mortgage
payments, are pulling their children out of private schools, looking for
cheaper universities and saddling their young people with larger tuition loans
(if they can be found). From riches to rags, is the anti-Horatio-Alger dream,
and the schadenfreude is palpable.
Beware: One of the great unintended consequences of the global financial
bailout (especially in the U.S.) will be the multiplied contractionary effect
of the government-mandated penalty to financial institution employees and their
shareholders, all of whom are taxpayers as well.
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