Wednesday 5 May 2010

Big Bank Profits = Market Failure

Over the past few weeks the financial pages have been full of reports of the huge profits made by banks. Here are a few of the headline figures:

  • J.P. Morgan made first-quarter profit of $3.3 billion
  • Goldman Sachs declared $3.46 billion of profits
  • Barclay’s Bank reported £1.47 billion of profits
  • Deutsche Bank AG reported a 48 percent increase in first-quarter profit

What is most interesting about these figures is that they have had virtually no effect on the current general election campaign. This at a time when all the three main parties are vying with each other over who can cut the most public services. Yet none of the parties wants to discuss the issue of huge bank profits and the huge bonuses that go with them.

For what is key to all these profits is that they come from a massive market failure. In a competitive market, prices and fees should fall and margins should become thinner. Yet apart from a short dip, investment bank profit margins have remained sky high. Which is clear evidence of anti-competitive behaviour. The situation has become even less competitive with the disappearance of key companies leading to further concentration. It is clear that investment banks to not even attempt to compete with other banks. If they compete with other bankers, they drive down the profitability of the entire industry, and ultimately their own earnings.

How do they get away with all this? In part because of the incredibly lax regulations governing the financial industry. In part because the people who use these investment banks - the chief executives of large companies - are more than happy to pay these huge fees. The reason is simple - the fees do not come out of the pocket of these chief executives. The costs are just passed on the poor customers. Who have no say in any of these transactions. When you think of all the take-overs and mergers that have happened in past decade or so - who benefits from any of them? Nearly all of them reduce competition, which according to the neo-liberal theoreticians who dominate economics, is the bedrock of our supposedly free market economy. Their is less choice for consumers and workers lose jobs. Yet somebody makes a lot, a very lot of money out of all these take-overs and mergers. Who? - why the chief executives, the top management and the boards of directors of all these companies.

So we have an economic system which steadily destroys jobs, reduces choice for consumers and generates vast profits and bonuses for a choice few at the top. Least anyone think this is just some left wing fantasy, read the views of the Financial Time’s Martin Wolf, no friend of the left. He has declared recently that "a large part of the activity of the financial sector seems to be a machine to transfer income and wealth from outsiders (that’s you and me) to insiders while increasing the fragility of the economy as a whole". And none of our main political parties wants to discuss any of this during the election campaign. Conspiracy anyone?

At a time of severe economic crisis, we are being offered in this election a false choice - cut public spending here or there. When we should be discussing the whole structure of our economy and how it can generate steady, sustainable growth which benefits all, not just the few. A key and necessary part of this restructuring will involve reforming the financial industry. The New Economics Foundation has produced a report on Better Banking which contains specific proposals for reforming the financial sector of our economy. You can see the report here. There proposal include the following”

  • Separate retail banking from speculation
  • Break up banks that are ‘too big to fail’
  • Launch a competition enquiry into the banks, that looks also at the role played by ratings agencies and accountancy firms
  • Introduce controls on bonuses
  • Introduce a financial transaction (or ‘Robin Hood’) tax

So when the next government, whatever complexion it is, comes out with proposals to cut public services and jobs, freeze pay and pensions, remember that there is an alternative.

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