Fragile FI’s

BC credit unions have declining political leverage. Banks and credit unions are created and nurtured as political accommodations. Banks are rooted in the constituencies they serve and the political clout of those constituencies, for good or bad. This is the core premise of Fragile by Design: The Political Origins of Banking Crises and Scarce Credit, co-written by Charles Calomiris and Stephen Haber (2014).

The authors coin the term ‘Game of Bank Bargains’. The book sweeps over several countries and many decades to track the ups and downs of banking (and by extension other intermediaries). Canada gets one chapter, which is a good read.

“We call this process of deal making the Game of Bank Bargains. The players are those with a stake in the performance of the banking system: the group in control of the government, bankers, minority shareholders, debtors, and depositors. The rules, which are set by the society‚Äôs political institutions, determine which other groups must be included in the government-banker partnership and which can be left out in the cold because the rules of the political system make them powerless. Coalitions among the players form as the game is played, and those coalitions determine the rules governing bank entry (and hence the competitive structure and size of the banking sector), the flow of credit and its terms, the permissible activities of banks, and the allocation of losses when banks fail.” (page 13)

Commercial banks are created around the commercial ‘need’ that they address, and the capacity for that industry to pressure government to ensure that ‘need’ is satisfied, through banking legislation. The writers explore the history of regional banks that served farmers, banks that served manufacturers, and banks that served trade and transport. One upshot is that governing politicians are vulnerable to pressures and may allow excessive risk-taking by banks if such policies enhance electoral prospects.

Easy credit has a way of bringing economic opportunity and growth, and then a crash. Calomiris and Haber outline some good stories. Many of us can recall events in the US where deregulation was touted highly during boom times, only to lead to the S&L crash of the 1990’s and the ‘great recession‘ of 2008.

Hence, the authors argue, banks are inherently fragile. The tensions between bankers, their clients, and government create a tendency to allow banks to take on excessive risk from time to time.

The Canadian banking sector has had a different history and has been much more stable. The writers see some lessons here that might be valuable in other countries.

Credit Unions

But I was most intrigued with the political triangulation and how it relates to credit unions. Indeed, credit unions were created in response to political actions and pressures of ordinary working people. Provincial governments responded to demands by significant groups within the electorate.

Credit union leaders were able to use these constituencies to get legislation in the 1940’s and 1950’s, the legislation the created a provincial ‘banking’ system in BC and other provinces. Credit unions revolutionized personal lending in Canada, and in some parts of Canada credit unions played important roles in providing credit to farmers and fishermen.

However, the pressures have not resulted in excessive risk-taking. Instead, over time, credit unions caused Federal banks to reorient and to better serve personal credit markets and residential mortgage markets.

The consequence is enigmatic. Those ordinary working people, farmers and fishermen are no longer closely aligned with credit unions. Credit unions no longer have a strong political constituency or partner to exert pressures on government, where it counts, at election time. Now, when credit unions seek any relaxation of regulation they have limited leverage.

The potential for credit unions to go Federal and operate under the Bank Act is also evidence of lost leverage. The province does not see the political/electoral advantage in retaining its own ‘banks’.

In the BC credit union context, fragility is not the three-sided one that may be there for smaller commercial banks in the US and elsewhere. Fragility is introduced in the unequal relationship between the regulated entities and government. Credit unions may advance some strong policy arguments, but credit unions do not have the political allies or supporters that they once did.

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