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Who is to blame for the 'Credit Crunch' and what is the best way forward for banking and financial services organisations?

Much has already been said about the credit crunch, many fingers have been pointed and much blame assigned as individuals and organisations have suffered on a global scale as a result of the global economic slowdown. 

A great deal of blame has been laid at the doors of banks and financial institutions, with this being well documented by many sections of the media.  Yet the other contributing factors to the global economic slowdown have received much less coverage.  These additional features played a key role in the speed and scale of the problems that emerged from the subprime mortgage market.

It could be argued that consumers themselves pushed the economy into recession.  Many modern consumers have developed an appetite for credit, this ‘quick fix’ provides them liquidity to purchase goods and services that traditionally, consumers would have saved for.  This is true for products across markets, from everyday consumables to the automotive industry and housing market. 

The responsibility for subprime borrowing, which many believe ultimately, caused the credit crunch, lies as much with the borrowers taking out the credit as with the lenders. It is fair to say that mortgage companies actively targeted people with aggressive sales pitches, 100% mortgages and highly competitive offers, but the consumers were accepting the risk of these transactions and played a cooperative role in taking responsibility for repaying loans.

Many experts have argued that consumers should never have been in a situation were they were exposed to these type of offers and market conditions.  Some suggest that governments should have done more to regulate banks and financial institution so that they were forced to lend more responsibly, other have looked to blame estate agents for providing bad advice and speculators for trying to cash in on rising house prices. 

In areas such as popular cities such as London, many houses were snapped up by investors; this contributed to the boom and helped drive prices up when the market was good.  However, buy-to-let sales and other investors have merely exacerbated the volatility of house prices.

However the blame is shared between the contributing factors, attention has now turned to how the banking system can be adapted to ensure future stability.

This article featured in Business Week (09.07.09) proposes a potential way forward for banking and financial services organisations to get back to a stable and reliable footing.

 

Some commentators argue that banks need to return to the plain, low-risk style of business that pertained up until the 1980s, where they made solid but unspectacular profits, leaving the higher risk strategies to specialist investment firms that do not benefit from governmental guarantees and so are liable for their own losses. In this more cautious climate, banks are keen to assess their risk profile with more accuracy and scrutiny than before. Companies such as Experian specialise in conducting such assessments, as the company's European chief executive Victor Nichols explains. "In portfolio management, where institutions have aggregated portfolios of lending assets that they are servicing, there is a lot of work going on to better assess the risk, with broader data and more rigorous analytics than in the past," he says. Where banks have been obliged to merge, as happened so dramatically in late 2008, Experian has the tools to help them understand their risk profile, says Nichols. "We have a broad view of the data and of the individual companies, broader than either one of the companies may be able to bring to bear, so we can do a more complete portfolio assessment and the risk they represent." Advances in information technology have meant that financial transactions and portfolios can be tracked far more accurately and promptly than in the past, giving banks more visibility of any potential risks. "They get more of a dynamic, or 'real time' view of their credit position on a particular loan or portfolio," says Nichols. "They are much more in tune with how it is changing incrementally over its lifetime and what actions they may need to take from a capital requirement or from a servicing viewpoint. Banks can now do an even better job of assessing information about a debt position or aggregate liabilities and the relative risk for any one customer." Outside the arena of purely financial risks, other commentators draw attention to the risks from political instability, terrorism, disruptive technologies, hyper competition, food, energy and environmental crises and the relentless rise of world poverty. "These factors will all contribute to a raised level of turbulence, with unpredictable spikes, and we have to be prepared for it," says business development guru John Caslione, author of Chaotics. "In the banking sector, that will mean greater scrutiny and higher reserve requirements," he says. "And let's not for get that eight of the world's top ten investment funds are from autocracies." Yet even Caslione is optimistic. "We always find a solution," he concludes.

 

Listen to Victor being interviewed by broadcaster David Nicholson, on behalf of INSEAD, about the Future of Global Banking.

INSEAD is one of the world's leading graduate business schools. It's 50 Global Viewpoints series and the collaboration with Business Week is part of the school's 50th anniversary celebrations. The series is designed to challenge assumptions, to share thoughts and ideas from experts in their field and to give a global viewpoint on some of the key financial issues facing the world today. Among the experts interviewed were Angela Knight, CEO of the British Bankers Association and David Wyss, Chief Economist at Standard & Poor's.

 

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