Since the rise during antiquity of banking as we have come to know it and its evolution through the Middle Ages and the Renaissance, whole library shelves have been written about the intricate minutiae of the financial mechanisms that tick away like the well-oiled machinery of a Swiss watch, behind the billions of everyday transactions that make up the many and varied markets of the global economy.
But it is the public’s trust that remains the central and the essential ingredient.
As no less starchy an observer than the Encyclopaedia Britannica puts it in its essay on banks and banking: “A bank must always have cash balances on hand in order to pay its creditors upon demand or when the amounts credited to the depositors become due. It must also keep a proportion of its assets in a form which can be quickly converted to cash,” Britannica states. “Only in this way can confidence in the banking system be maintained. ... The amount of credit a bank extends may exceed the sums available to it in cash. But a bank is able to do this only as long as the public believes the bank can and will honour its obligations.”
So, trust is the lubricant that keeps all that machinery running smoothly. And when trust evaporates, the clockwork seizes up, stock markets melt down, national economies contract in recessions or depressions, jobs vanish and tax revenues with them, wages aren’t paid and social deficits climb, debts aren’t honoured and, in the worst cases, states fail, empires fall, and whole civilizations collapse.
All this balances upon the depositors’ fundamental belief that funds placed in the hands of bankers are safe and that their return is guaranteed. Which brings us back to the European Union’s decision that the way to address decades of profligacy, folly, greed and corruption in the financial sector that led to a banking crisis in Cyprus was to seize funds from depositors.
Already there are rumblings that the archetype of trust at the foundation of our financial well-being is eroding.
In the first quarter of 2013, even with modest recoveries on the books five years after the liquidity crisis of 2008, trust in banking and financial services continues to unravel worldwide.
“The real economy relies on the financial system. And the financial system depends on trust. Indeed, trust is embedded in the language of finance,” warned Mark Carney three months ago when he was still governor of the Bank of Canada. “The world credit is derived from the Latin, credere, which means ‘to have trust in.’ Too few banks outside of Canada can claim credit today. Bonds of trust between banks and their depositors, investors and regulators have been shaken by the mismanagement of banks and, on occasion, the malfeasance of their employees.”
He was referring to the financial shenanigans of the savings-and-loan scandal that began under then-president Bill Clinton in the U.S., fulminated under George W. Bush as the subprime mortgage scandal, and then morphed into the full-blown international banking crisis inherited by Barack Obama in 2008.
The latter, driven by banks and financial institutions advancing high-ratio mortgages at artificially low interest rates, secured with over-valued housing, to people without the financial resources to weather upticks in interest rates, and then selling the debt as “derivatives” to third-, fourth- and fifth-party investors, required the biggest government bailouts in financial history.
Governments in the U.S. and Europe — and Canada — struggled to maintain liquidity in the banking system with taxpayer-funded infusions of capital, loans to big industries crucial to employment, and stimulus spending. But banks, financial institutions and investment brokers responded by rewarding themselves with fat bonuses.
Meanwhile, out-of-control investment bankers gambled and lost billions, major banks in Europe and the U.S. were implicated in conniving to rig international interest rates to their advantage, and there were insider trading scandals on Wall Street.
In the summer of 2012, Vince Cable, a respected cabinet minister who was the U.K.’s secretary for business, innovation and skills, described Britain’s own banking crisis to The Observer newspaper as “a moral quagmire of almost biblical proportions.”
“Perhaps the most fatal blow to public trust has been the perception of a heads-I-win-tails-you-lose finance,” Carney said in a speech at the University of Western Ontario earlier this year. “Bankers made enormous sums in the run-up to the crisis, and were often well-compensated after it hit. In turn, taxpayers picked up the tab for their failures.”
These forthright observations seem to be shared worldwide by growing numbers of the bankers’ clientele.
The Edelman Trust Barometer is based on annual surveys of 26,000 people in 26 countries, with an additional 5,800 respondents from what the study calls “informed publics” — university-educated people who have incomes in the top 25 per cent for their age and country, who read business and news weekly and who track public policy issues.
New York-based Edelman is one of the world’s biggest and top-ranked public relations firms.
It reports that among the global informed public, trust in the banking and financial services sector has plummeted to 50 per cent. Barely one in five respondents expressed trust in banks and financial services in the United Kingdom; in Ireland, severely buffeted by financial storms, trust was a minuscule 11 per cent; and even in relatively well-off Germany, trust was 23 per cent, similar to the U.K. In the United States, Edelman reported, there had been a 20-per-cent decline in trust for banks and financial institutions.
When respondents were asked why their trust had declined, the driver was the plethora of corporate and banking scandals reported in the world’s media over the last half decade.
When the surveyors drilled deeper to find out what these informed citizens thought was the cause of these financial scandals, one in four cited corruption, a similar number cited greed in a compensation-driven financial culture, while one in five blamed failures in government regulation.
In the U.S., banks could muster only a 42-per-cent trust level; in Europe, the trust was even lower at 33 per cent; and across the developed world, it was 37 per cent — just over half the trust level of banks in the emerging economies of the developing world.
And all this research was done before the initial decision to let Cyprus save its financial institutions by raiding deposits held by its banks.
“It remains the collective responsibility of banks, regulators and stakeholders to rebuild trust in banking,” Carney warned. “Bankers need to participate actively in reform, not fight it. Until recently, too few bankers acknowledged their industry’s role in the fiasco. The time for remorse is far from over.”
And you can take that advice to the bank.