Until 25 years ago, most banks and financial institutions were under state control. Many were specialized (Crédit foncier, Crédit agricole, Banques Populaires, Caisses d’Épargne, etc.), interest rates were largely administered and the Banque de France supervised credit.
Today, banks compete on all fronts. Credit and interest rates are no longer administered and, whether private or mutual, they have strong profitability requirements. As in most business sectors, competition limits margins on banking products and services and drives innovation (many as we know in the financial sector in recent decades). Yet banks are not quite like other companies.
The management of a common good for all
Their activity, which consists of trading in money, and their power to create money make them essential economic and social players. They have the power to allow the projects of industrialists and individuals to be carried out without prior savings. At the same time, their responsibility is considerable: banks are at the heart of the management of this common good that constitutes money, which implies constraints and rights for them.
The public authorities, and in particular the Central Bank, must ensure that the banks do not jeopardize, by an activity that is too risky (loans in quantities greater than their capacity to finance them, loans to borrowers with poor credit, speculation, etc. .), the existence of money as a reliable medium of exchange.
Although they engage in sometimes fierce competition, they must forge very close relations between themselves which express their common belonging to the same banking system.
Banks share the most traditional part of their activities between the deposits they receive and the loans they grant. This structure has a particularly positive effect since it makes it possible, thanks to the maintenance and renewal of deposits, to finance activities that could not have been financed by a simple loan between individuals or by recourse to the financial markets. But this “transformation” activity, which is at the heart of the traditional operation of banks, is a major source of fragility: in fact, the bank receives short-term liquid assets (deposits that can be withdrawn at any time) which it transforms into illiquid medium or long-term assets (the loans it grants and whose repayment is gradual).
“Even if this bank is well managed, explain the economists Emmanuelle Gabillon and Jean-Charles Rochet, it is enough for a large fraction of its depositors to decide to withdraw their assets for it to experience difficulties” (“Banking Economics” article published in the Encyclopedia Universalis on the touteconomie.org website). If the amount of the withdrawals exceeds that of the reserves, the bank is indeed obliged to borrow urgently, under generally unfavorable conditions, from other banks. Its profitability can therefore deteriorate very quickly.
Depositors, worried about their deposits, may rationally be tempted to withdraw their assets, which, in the absence of external intervention, precipitates the bank into bankruptcy. As a result, the bank is constantly exposed to the risk of a deposit withdrawal movement that would exceed its available cash reserves.
The failure of an institution can have significant repercussions on other banks, even individually well protected against the risks that can affect them (credit risk, market risk, etc.). Because of the strong interrelationships between banks, the fall of one can lead to the fall of the others. This is called systemic crisis risk. This was verified with the bankruptcy of Lehman Brothers bank in the fall of 2008. This risk is due to a set of factors.
When a banking institution is in difficulty, it will seek to sell a large part of its assets to obtain liquidity, which risks causing the price of the markets on which it is present to fall.
Moreover, by becoming aware of the difficulties of bank A, the depositors of the other banks run the risk of no longer trusting their own bank and will seek to recover their deposits, thus putting the whole of the banking system in difficulty.
Furthermore, each bank has a lot to lose in the disappearance of another bank, since it would then lose the credits it granted to it.
General impact on the economy
“When the building goes, everything goes” goes a popular saying. “When the bank is doing badly, nothing is going well”, one could add. Banking crises have the effect of threatening the ability of banks to extend credit and, consequently, the investment and consumption capacity of households and businesses.
This is why the bank, ultimately a company not quite like the others, is also the company most subject to regulations and controls.