BANKING & SOCIETYFINANCIAL TIMES SPECIAL REPORT | Thursday November 18 2010 Page 3

InsideAre bankstrying to regaintheir influenceover politicians?

www.ft.com/banking­society­2010 | twitter.com/ftreports

Remuneration stillthe big sticking point

Not that long ago, bank-ers were respectabilitypersonified. Fun-loving, maybe not.

Risk-hungry, certainly not.Pillars of the community, abso-lutely.

But the financial crisis madeeveryone realise the safe oldimage was an anachronism –and a dangerous one at that.Ever since the crisis peaked acouple of years ago, banks thathave not been spending all theirtime merely trying to stay afloathave been fending off attacksfrom politicians, regulators andthe mass media. They causedthe crisis. They cost govern-ments billions in bail-outmoney. What are they doing tomake amends to society?

Perennially top of the to-fixlist is the issue of bankers’ pay.Over the past decade, a gulf hasopened up between high-streetbankers who were the paragonsof society a few years earlier,and deal-fixers and traders whowere rewarded for riding theboom but have not really beenpunished for the bust. Despitebeing tarred with the samebrush by the general public, theupstanding branch manager –and his or her team of tellers –have just as much reason as therest of society to feel bitterabout the investment bankers.

They raked in the big moneyin the boom years, motivated byrevenue-based bonus structuresto take ever greater risks,regardless of the longer-termfall-out, and have continued rak-

ing it in ever since. That ispartly because a low interestrate environment – vital to propup economies in the wake of thecrisis – has ironically favouredinvestment banking, but it isalso partly an intrinsic byprod-uct of the capitalist market-place: one bank cannot afford tocut pay if its rivals do not, forfear of losing its best staff.

There have been attempts at apolitical and regulatory level todeal with the issue. The UK hasgone furthest so far – with theFinancial Services Authorityimposing restrictions on thestructure of bonus paymentsand the last Labour governmentimposing a one-off bonus tax.The European Union has fol-lowed up with stricter pan-Euro-pean limitations on the propor-tion of a bonus that can be paidin no-strings cash. Other bigeconomies have fallen into linewith a G20 ruling that a signifi-cant chunk of bonuses shouldbe deferred over several years.

There is continued scepticismin many quarters, with criticsinsistent that it is not the struc-ture of pay that matters but the

huge disparity of total remuner-ation when compared with do-good professions, such as doc-tors, nurses and teachers. Butsupporters of the reforms insistthat disincentivising short-termprofit is key. “There is a reallink now between what is ethi-cal and what is risk-adjusted,”says Chris Harvey, global headof financial services at Deloitte.

Particularly in Europe butalso in the US, pay has viedwith one other topic for domi-nance in the debate about thesector’s future – the role ofbanks as facilitators of the glo-bal economy. Since the crisis,various governments on bothsides of the Atlantic have

imposed lending targets on bigbanks, particularly those thatwere the recipients of state bail-out money. “It’s ironic,” says MrHarvey at Deloitte. “Politiciansare saying: ‘we think you tookon too much risk. But now wewant you to lend more’.”

Such targets tread a fine linebetween a free market and amanaged economy. “Many regu-lators think socially usefulbanking is socially engineeredbanking,” says Bob Penn, part-ner at law firm Allen & Overy.

So far, at least, the bankshave sought to hit the targetsand when they have not, as hap-pened in the UK last year, therehas been no comeback.

The political pressure on thebanks to lend more is at oddswith the drive by internationalregulators, supported by thosesame politicians, to make thebanking sector safer by boostingcapital and liquid fundingreserves. But while many banksremain reluctant to ramp uplending on their own books,there has been a trickle of initia-tives aimed at addressing theissue of small business fundingthrough the back door.

In 2009, with profits boomingand a public backlash looming,Goldman Sachs diverted $500mof partners’ bonus accruals intothe Goldman Sachs Gives pro-gramme, a charitable venturethat has among its aims “creat-ing jobs and economic growth”.At the same time, the banklaunched a $500m programme toprovide loans and grants tosmall business in New York andLos Angeles.

Last month in the UK, JohnVarley, Barclays’ chief execu-tive, launched a 10-year £1.5bnventure capital fund, on behalfof the British banking industry,to inject equity into small

Patrick Jenkins sayspolitical pressure tolend to small businessis at odds withregulators trying toboost capital reserves

Make them pay: protesters still blame bankers and chief executives for causing the financial crisis Getty

Inside this issueBasel III New rules on capitalrequirements are set toradically change how banksapproach their business,writes Brooke Masters Page2

HistoryJustin Baer looks athow banks wereperceived inthe past andasks if thecurrentsituation isreally so differentPage 2

Retail Institutions are strivingto win back the trust of their

customers by focusing oncustomer service instead ofjust costs, writes Sharlene

Goff Page 3

MicrofinanceA crisis in thesector is forcingbanks to re­evaluate how they

lend to the world’spoorest people, saysAmy Kazmin Page 4

Continued on Page 2

It’s ironic, politiciansare saying: ‘we thinkyou took on too muchrisk. But now we wantyou to lend more’

Chris Harvey,Deloitte

2 ★ FINANCIAL TIMES THURSDAY NOVEMBER 18 2010

ContributorsPatrick JenkinsBanking Editor

Sharlene GoffRetail BankingCorrespondent

Justin BaerWall Street Correspondent

Brooke MastersChief RegulationCorrespondent

Megan MurphyInvestment BankingCorrespondent

Amy KazminSouth Asia Correspondent

Tom GriggsCommissioning Editor

Steven BirdDesigner

Andy MearsPicture Editor

For advertising details,contact:Regina Gill+49 69 156 85 161Email: regina.gill@ft.com

Banking & Society

Pay stillthe bigstickingpoint

businesses. Critics said thesize of the fund meant itcould realistically back onlya couple of dozen compa-nies. But bankers defendedit as a useful mechanism toput equity into capital-starved businesses, whichcould then in turn attractbank loans more easily.

In France, Crédit Agricolehas prided itself on doingmore than most to addressthe needs of its clients andbroader French societyamid the current economicdifficulties. “Our main rolehas been to provide creditto the economy,” saysJoseph d’Auzay, generalsecretary. “Throughout thisperiod, we have never failedto increase our lending tothe economy.”

But the approach of thegroup – which has its rootsin a mutually owned net-work of local lenders basedin the farming industry –goes beyond the credit busi-ness. Mr d’Auzay is proudof having set up a networkof specialist offices to givehelp to the needy – not justCrédit Agricole customers,but clients of other banks,too. “It’s like a private citi-zens’ advice bureau,” hesays. “We will talk to thosegoing through difficultiesand help them get financialassistance, help them workout a family budget andunderstand how to save.”

Mr d’Auzay also mentionsa programme to recycle thebank’s old stock of comput-ers which, once “thor-oughly cleaned” at a spe-cialist processing plant inTours, in the centre ofFrance, are passed on to the“disenfranchised”.

Though perhaps lessquirky, there are countlessexamples of banks engagingwith society around themand signing up to corporatesocial responsibility pro-grammes. Following the cri-sis they are keener thanever to shout about theirgood works. Goldman’s10,000 Women programme,which seeks to supportfemale entrepreneurs in 21emerging economiesthrough business and man-agement education, accessto capital and mentoringnetworks, is one of the mostwidely acclaimed.

But in their coreapproach to business, awholehearted adoption ofethical practices remains onthe margin of the industry,with operators such as Trio-dos Bank in the Nether-lands and The Co-operativein the UK among only a fewnames to sign up to whole-sale pledges on lending andinvesting ethically.

One initiative that maysuggest an incursion of theapproach into the main-stream, however, waslaunched recently byemerging markets bankStandard Chartered, withthe first of a series ofreports on the bank’s socialand economic impact on themarkets in which it oper-ates. Peter Sands, chiefexecutive, said he hoped thefirst report, on Ghana,would encourage otherbanks to assess the useful-ness of their activities.

“The banking industryneeds to be thoughtfulabout what it is doing,” hesaid at the time of thelaunch. “You have to think:‘what is this for?’”.

Continued from Page 1

Banks are at the heart of capitalism

Two years after the creditcrisis overwhelmed themarkets and shook theworld’s confidence in the

banking system, the debate overthe social utility of financialinstitutions and their servicesstill rages. Yet while the eventsof 2008-09 were in many waysunprecedented, today’s bank crit-ics and defenders have in someways simply inherited the samearguments first posed centuriesearlier.

Two hundred years before theinvention of the credit defaultswap, when the city of Basel,Switzerland, was known more asthe place to sign peace treatiesthan set capital requirements,the rhetoric over banks’ contri-butions to society was no lesspassionate.

Thomas Jefferson, the found-ing father of the US and authorof the Declaration of Independ-ence once called lenders “moredangerous than standing armies”and opposed vehemently the cre-ation of a US central bank. Notsurprisingly his political rival,Alexander Hamilton, had a dif-ferent view.

“Most commercial nationshave found it necessary to insti-tute banks and they have provedto be the happiest engines thatever were invented for advanc-ing trade,” Mr Hamilton, the firstUS Treasury secretary andfounder of the Bank of NewYork, wrote in 1781. “Venice,Genoa, Hamburg, Holland andEngland are examples of theirutility.”

Hamilton was arguing for thecreation of a national bank, buthis words – as well as those ofhis rival, Jefferson – could easilyapply to the role of commercialand investment banks in creat-ing the modern business world.

In the 19th century, as agrar-ian economies gave way to theindustrial revolution, corpora-tions sprang to life with the helpof banks. Companies and individ-uals no longer relied on barter toconduct business. Cash, so thecliché goes, became king.

“By 1900, there were dozens ofindustrial corporations,” saysJohn Steele Gordon, a businesshistorian and author of AnEmpire of Wealth: The Epic His-

tory of American EconomicPower. “It was a whole newworld. These companies neededhuge amounts of capital.”

The bankers came of age, too.John Pierpont Morgan and JacobSchiff, the dominant financiersof the era, provided the capitalfor Western Union, General Elec-tric, Carnegie Steel and manyother industrial heavyweights.

By the early 20th century,stock markets would emerge assignificant sources of capital,giving rise to a new class of cor-porate owners.

“You had more stakeholdersinvolved than ever before,” saysCharles Geisst, professor offinance at Manhattan Collegeand the author of several bookson Wall Street.

Family-run businesses wentpublic and hired professionalmanagers, Mr Geisst said.

When the markets grew over-heated and panic ensued in 1907,it was the Morgans and theSchiffs – the US Congress hadnot yet created the FederalReserve – who stepped in withcapital to shore up the bankingsystem.

The private banks filled thatvoid, but the truth is they hadto,” Mr Geisst says. “There wasnot one else to do it.”

While the formation of a UScentral bank would foreverchange the industry’s responseto crises, banks continued toplay pivotal roles in developingthe world’s economies.

Depression-era regulations

would separate Wall Street – theissuance and trading of securi-ties – from commercial banking –taking deposits and makingloans. Until those rules wererewritten decades later, financialinstitutions from each side of thedivide would flourish on theirown.

Walter Wriston, who ran Citi-bank from 1967 to 1984, wouldhelp bring automated tellermachines to almost hundreds ofthousands of street corners. Mil-lions of consumers would cometo own credit cards and certifi-cates of deposits.

Epitomised by Lazard’s FelixRohatyn, investment bankershelped corporate chieftainsexpand dramatically throughmergers and acquisitions, creat-ing a new generation of conglom-erates that would diversify intomarkets with little or no connec-tion to their core businesses.

From seeding a burgeoningtechnology sector and creating ajunk-bond market that wouldfinance leveraged-buyouts (andcorporate raiders), to the devel-opment of the debt-securitisationmarkets that would create amassive mortgage bubble, bankshave been at or near the epicen-tre of every economic boom orbust of the past century.

Occasionally, bankers did playa more direct role in society, asthey did in the 1970s in helpingthe city of New York restructureits debt to avoid bankruptcyafter the US president, GeraldFord, famously declined to offerfederal aid. The cause – one theircritics would argue was notentirely selfless – would helpburnish Wall Street’s reputationin its home town.

“There was great hostilitytoward New York,” says MrRohatyn, who led the effort aschairman of the MunicipalAssistance Corporation. “Bailingout New York City became asymbol. If the city went bank-rupt, that would show that liber-alism was a sham.”

Bailing out the banks them-selves, as the world’s govern-ments did in the most recent cri-sis, was symbolic, too. Whetherone believes they are deadlierthan hostile forces or “happyengines” of economic growth,few now doubt the financialservices industry’s importance tothe economy.

“The banking industry is thecirculatory system of the econ-omy,” Mr Gordon says. “It’s anal-ogous to the heart. Breakingyour arm is unpleasant – it takesawhile to recover but eventuallyyou’re as good as new. If yourheart fails, you’re in trouble.”

HistoryJustin Baer examinesthe role the sector hasplayed in the creationof modern business

Glass­Steagall solutionmoves out of favour

In 1933, after the stock mar-ket crash of 1929 ushered ina wave of bank failures, USlegislators sought to restorefaith in the financial sectorby passing the Glass-Stea-gall Act, which forcedbanks to separate commer-cial banking activities fromriskier trading and securi-ties activities.

More than 75 years later,and a decade after Glass-Steagall was repealed, poli-ticians, regulators and evensome senior bankers werepushing for the reintroduc-tion of similar restrictionsin a bid to prevent anotherglobal financial crisis.

Separating banks’ morepedestrian retail bankingoperations from theirinvestment banking – or, inthe words of some politi-cians, their “casino” bank-ing arms – has been backedin whole or in part bydiverse array of figures,including Paul Volcker, aformer Federal Reservechairman, Vince Cable, theUK’s business secretary andMervyn King, the governorof the Bank of England.

Among voters, many ofwhom still blame overpaidinvestment bankers forcausing the crisis by push-ing complex subprime mort-gage-related products theydid not fully understand, itis a proposal that alsodraws widespread support.

In the US, Mr Volcker hasalready led efforts to intro-duce a rule in the Dodd-Frank financial reform leg-islation that bans banksfrom the short-term tradingof securities for their ownaccount, known as “proprie-tary” trading, and limitstheir investments in private

equity groups and hedgefunds.

But those restrictions,known as the “Volckerrule,” fall far short of aG l a s s - S t e a g a l l - s t y l eenforced separation, andthere are early signs thatthe reforms may be furtherwatered down by a nowRepublican-led US Con-gress.

In the UK, far-reachingstructural changes are stillbeing discussed by the Inde-pendent Commission onBanking, a five-memberpanel set up by the coali-tion government in Juneand chaired by Sir JohnVickers, the former chair-man of the Office of FairTrading, the competitionwatchdog.

Among the eight broadoptions for reform beingconsidered by the ICB, mostattention has centred on aforced break-up of Britain’slargest banks, several ofwhom, such as Barclays,Royal Bank of Scotland andHSBC, have large invest-ment banking operations.

But again, the early indi-cations from people close tothe commission’s thinkingare that it is more likely torecommend less radicalchanges, such as requiringbanks to create “modular”structures that would allowfor the failure of a certainbusiness line without bring-ing down the whole groupor forcing them to turn tothe taxpayer for support.

Why has the nascentpush for a return to Glass-Steagall seemingly faltered?

To be sure, the world’sleading “universal” banks –such as JPMorgan Chase,Barclays and DeutscheBank – have worked hard toconvince regulators and thepublic of the merits of com-bined groups, where corpo-rate clients have access to afull array of commercialand securities services.

For example, Bob Dia-mond, the head of Barclays’investment banking opera-tions who is soon to suc-

ceed John Varley as chiefexecutive of the group, isfond of citing the need formultinational clients tomanage their business risksin different locations acrossthe globe – hedging theircurrency and interest rateexposures while raisingdebt and equity to fundtheir operations from Brit-ain to Brazil.

In the UK in particular,several senior bankers havealso suggested that theforced break-up of bankinggroups would see iconicnames such as Barclays andHSBC shifting their opera-tions to New York, HongKong or Singapore.

While the coalition gov-ernment has repeatedlyaffirmed its intention to“rebalance” Britain’s econ-omy, with financial servicescontributing a lower pro-portion of national grossdomestic product, the lossof several large bankinggroups would mean a bighit on both corporate andindividual tax revenues –in addition to damagingLondon’s standing as aninternational financialcentre.

More fundamentally, fig-ures such as Alistair Dar-ling, the former chancellorof the exchequer, have putforward the argument thatseparating retail frominvestment banking willnot prevent another shockto the financial system.

Of the banks that failedduring the crisis, LehmanBrothers and Bear Stearnswere “pure-play” invest-ment banks, with no retailoperations, while NorthernRock was a relatively smallUK mortgage lender with-out any investment bankingactivities.

Most senior bankersbelieve that, two years onfrom the height of thefinancial crisis and with theworld’s attention nowfocused on a deepening debtcrisis in Ireland, themoment for another Glass-Steagall has passed.

RegulationMegan Murphy onthe rise and fall inpopularity of a curefor the ills of thebanking world

New ruleswill changethe game

Banks around the world arehaving to reassess theirbusiness plans and riskchoices in the face of a glo-bal regulatory rewrite ofbank safety and soundnessrules that will make somelines of business moreexpensive and even unprof-itable.

The Basel Committee onBanking Supervision, madeup of regulators and centralbankers from 27 of the larg-est economies, is stillputting the finishingtouches on its new rules.But the broad outlines andtimetables for “Basel III”are now clear.

All banks will – in effect –be required to hold topquality “tier one capital”equal to 7 per cent of theirtotal assets, adjusted forrisk, up from 2 per centbefore the financial crisis.Large global banks arelikely to have to hold some-what more, especially ifthey are based in the UK,US, Switzerland and someAsian jurisdictions.

Over the next nine years,the definition of whatcounts as tier one capitalwill narrow sharply, andnew rules for risk-weightingwill also dramaticallyincrease the amount of capi-tal that banks have to holdagainst potential losses.

Basel III also includes twonew liquidity rules alsodesigned to make bankssafer – the liquidity cover-age ratio that requiresbanks to hold enough cash

and other easy-to-sell assetsto survive a 30 day crisis,and the net stable fundingratio that will force banksto hold more long-termfunding. Both of these ruleswill be phased in moreslowly and regulators havepromised to adjust them todeal with unforeseen conse-quences. But bankers, law-yers and regulators agreethat the effects on theindustry will be profound.Many banks are rushing tohire new experts in risk andcompliance to help themcomply with the new rules.

“Basel III will impose acomplex, detailed set ofrequirements on banks.Even the operational costand burden of implement-ing its mandates cannot beoverstated,” says GregLyons, partner at the lawfirm Debevoise & Plimpton.

Some critics warn thatthey will curtail economicgrowth by making somebanking functions, such aslending for working capitaland trade finance, far moreexpensive. Supporters coun-ter that the main effect willbe to curtail the use ofunnecessarily complexfinancial products for regu-latory arbitrage. Deriva-tives and structured prod-ucts will almost certainlybecome more expensive touse, both in terms of feesand collateral requirements.

“If I were a corporatetreasurer, what I would bemore worried about is notordinary borrowing butmore funky stuff, deriva-tives and hedging risk,because that is where cor-porate treasury proves itsworth. The cost goes up inthis brave new world,” saysBob Penn, partner at lawfirm Allen & Overy.

Researchers at the Inter-national Monetary Fundrecently studied 62 of the

world’s biggest banks todetermine the combinedimpact of the various BaselIII rules that tighten thedefinition of acceptable tierone capital and increase therisk weighting of the assets.Their paper concludes thatunder the new more rigor-ous definition the existingaverage tier one ratio forlarge banks would fall from8.6 per cent to 5.8 per cent.

“If banks are going tohave to raise more capital,they are going to need areturn to pay for that capi-tal, so they will have tolook at their pricing. It’sunclear where that will hit

and it’s unclear how big itwill be,” says Patrick Fell,director of PwC’s regulatorycapital practice.

The IMF researchers saythey believe the far-off 2019deadline will allow all but10 of the banks to meet therequirements throughretained earnings. But regu-lators in some countriesmay not give their banksthat much breathing space– the UK and US havetalked publicly about push-ing up their deadlines.

“The UK emphasis onaction risks disadvantagingbanks that are headquar-tered in the UK and is also

discouraging many interna-tional banks – some ofwhom are repatriating orrelocating all or some oftheir business. If the UKdoes go it alone thestrength of the regulatoryemphasis could affect prof-its to some degree,” saysMichael McKee, partner atthe law firm DLA Piper.

The liquidity rules will, ifanything, be tougher tomeet than the new capitalrequirements, if they arenot amended.

The IMF writes that amajority of the Europeanbanks cannot meet the netstable funding require-ments. The researchers pre-dict that bank funding costswill increase significantly,and that investment bankswill have a hard time com-plying with all the changes.

The net stable fundingratio in particular will forcemany banks to competeaggressively for new depos-its because they arefavoured above wholesalefunding.That could benefitsmall and medium sizedcompanies and retail inves-tors through higher interestrates. But some banks maychose to cut back lending orcharge more for it.

“Retail deposits are notgoing to miraculously growon trees. Unless deleverag-ing goes a lot faster orunless lending to the per-sonal and SME sectors iscut back, big UK banks aregoing to remain dependentfor some years on wholesalefunding,” says MichaelFoot, chairman of Promon-tory Financial Group, a reg-ulatory consultancy.

Basel IIIThe cost of usingderivatives andhedging is setto rise, writesBrooke Masters

Sign of the times: compliance experts are needed Dreamstime

Retail deposits arenot going tomiraculously growon trees

Michael FootPromontory Financial

Engines of happiness: financial institutions such as the US Federal Reserve have been central to the creation of the capitalist system Bloomberg

FINANCIAL TIMES THURSDAY NOVEMBER 18 2010 ★ 3

Banking & Society

Householdsand smallbusiness stillface stagnation

Of all the criticism fired at thebanks since the financial crisisthe biggest public and politicalstorm has been sparked by theaccusation that they are unwill-ing to lend to households andsmall businesses.

Governments around theworld have been forced to inter-vene to ensure banks are mak-ing loans available to viable cus-tomers, following widespreadconcerns that many institutionshave prioritised rebuilding theirbalance sheets and reducingrisk over new lending.

Politicians across Europe havedemanded that banks sign up toformal lending targets as a con-dition of the state aid theyreceived during the financialcrisis. Meanwhile governmentsand central banks have pro-vided hundreds of billions ofpounds of cheap funding to easethe flow of credit to individualand corporate customers.

And in a clear sign that thedebate over lending is unlikelyto die down soon, the incomingchief executive of Lloyds Bank-ing Group, the UK bank that is41 per cent owned by the tax-payer, has agreed the unusual

condition of having his bonus inpart pinned to small businesslending.

For their part, the banks saythey are taking drastic steps todrum up new business and areapproving a high number ofnew loans. This month RoyalBank of Scotland, one of theUK’s biggest lenders, said newlending to businesses in thethree months to September wasup more than a third year-on-year, while new mortgage lend-ing was also strong. Other Euro-pean banks have also started tomake more credit available aftera sharp contraction in 2009.

The problem is that no matterhow much new lending thebanks do, customers seem to berepaying an even higheramount. Analysts say that busi-nesses have shied away frominvesting in the recession, whileexisting mortgage holders, whohave benefited from a sharp fallin interest rates, have taken theopportunity to repay biggerchunks of their loans.

But while demand is likely toremain subdued for some time,there is early evidence that con-ditions are starting to improve.

Economists at Capital Eco-nomics say the acute contrac-tion in lending in the UK, USand across much of the Euro-zone is abating and there arenow signs of improvements inall three areas. Some of the

most positive trends have beenseen in the eurozone. Recentdata from the European CentralBank showed lending to house-holds in September rose about 3per cent year-on-year, drivenprincipally by a pick-up in newmortgage lending.

Also, while business lendingis still marginally down on lastyear, the picture has improvedfrom six months ago: “There aresigns that things are turningaround in the eurozone,” saysBen May, a European economistat Capital Economics. “Whilelending is still weak by historicstandards, it is certainlystronger than it has been.”

However, while the generaltrend is brighter, there are stilla number of weak spots acrossEurope – Spain and Ireland, forexample – where banks arestruggling to control bad loans.

The recovery is happeningmore slowly in the US and UK,where lending has fallen moresharply but there are still somesigns of stabilisation. The latestquarterly report from the Bankof England showed that creditbecame easier to access for UKsmall businesses in the thirdquarter, while net lending tobusinesses and householdsincreased slightly in August.

“There are some signs ofimprovement but the generalpicture is still weak,” saysVicky Redwood, who covers theUK at Capital. “Overall lendinggrowth is essentially zero andthere are a number of factorsthat could be a drag for someyears to come.”

One big constraint on banks’ability to lend is that they arehaving to build up greater capi-tal buffers to protect themselvesagainst the risk of anotherdownturn. Analysts say thiscould force them to rein in lend-ing, particularly on riskierloans, such as mortgages withhigh loan-to-values or those tostart-up businesses.

Mortgage borrowers arealready having to stump uplarge deposits and meet toughercriteria, meaning that whilemortgage rates may be low byhistorical standards, they arestill out of reach for many cus-tomers. Banks are also havingto wean themselves off thecheaper funding they havereceived from governmentsthroughout the financial crisis.To make matters worse theseissues are set in the broadercontext of a stumbling economicrecovery. There are renewedconcerns about the propertymarket, as – for instance –house prices in the UK comeunder further pressure. Mean-while fears are growing that theUS property downturn could bemore prolonged than expectedafter problems were identifiedin banks’ foreclosure proceed-ings.

Analysts fear that while theworst of the credit crunch isover, lending growth is unlikelyto pick up pace any time soon.

“Hopefully lending won’t dete-riorate significantly from here,”says Ms Redwood. “However thepressures on banks combinedwith the general economicuncertainty means lendingcould be stagnant for years.”

LendingDemand is likely toremain subdued forsome time to come,writes Sharlene Goff

It’s the return of the old­fashioned bank manager

When a new bank sprangup on the UK high-streetthis year, some observerswere surprised to discoverit was offering little in theway of a financial incentiveto attract customers.

Instead Metro Bank,which is credited as beingthe first new bank to set upin the UK for more than 100years, tried to draw mort-gage and savings customersaway from its bigger rivalsby promising a higher levelof service.

Its decision is indicativeof a broader shift in theretail banking landscapetaking place not just inBritain but across theworld.

After a period in whichbanks have increasinglymoved a chunk of theiroperations overseas to cut

costs and have put moreweight behind their onlinebusinesses, many are nowperforming something of anabout turn.

Consultants say thatwhile offshore call centrescan be effective at dealingwith banks’ own technicalissues, or basic queriesfrom account holders, theyhave fallen down when itcomes to dealing with themore personal or complexissues customers mighthave.

Banks across the UK,Europe and the US are nowbringing service centresback into their local mar-kets and investing heavilyin their branch networks.More significantly, manyare attempting to restoretheir battered reputationsby putting customer satis-faction at the heart of theirbusiness.

“To a degree we are see-ing banks go back to thefuture,” says David Sayer,global head of retail bank-ing at KPMG, the account-ancy firm. “They are focus-ing on their reputation forcustomer satisfaction andare returning to the old

fashioned model of havingpersonal bank managersrather than call centres.”

A number of interna-tional banks – includingBarclays in the UK, BNPParibas in France and Ger-many’s Deutsche Bank –are giving their somewhattired branch networks afacelift to improve the expe-rience for customers. WestPac, the Australian bankhas launched a campaign to“bring back the branch”.

Banks around the worldhave also launched market-ing campaigns that high-light their customer service– a striking difference tothe boom years when thefocus was clearly on offer-ing the best price to cus-tomers.

NatWest, the retail bank-ing arm of Royal Bank ofScotland, the UK govern-ment-backed bank, has setitself the target of becoming“Britain’s most helpfulbank”. Its pledges includeextending opening hours inits busiest branches andserving customers withinfive minutes.

Meanwhile Han-delsbanken, the Swedish

bank, has expanded rapidlyacross Europe by offering amore traditional bankingservice. The bank’sbranches are run independ-ently by experienced localmanagers who have thepower to make lending deci-sions, rather than having torefer customers to invisibleprocessing centres.

This shift in strategy in

part reflects the need bybanks to win back custom-ers’ trust, which has beenseverely undermined duringthe financial crisis.

Governments around theworld have had to step in toprevent what would havebeen some catastrophic fail-ures of some of the world’sbiggest financial institu-tions. Two years later,banks still have not shaken

off the blame for causing adownturn that has pushedmillions of people intounemployment.

At the same time bankcustomers have becomefrustrated at having theircalls transferred to – attimes – inexperienced staffin offshore call centres,often in India. But as wellas the softer issue ofrebuilding trust, banks arewell aware that they needto adopt a different kind ofbusiness model if they areto succeed in the post-crisisworld.

While during the boomyears, they were able todrive profits by rapidlyaccelerating lending withlittle consideration of risk,many are now having tofind more sustainablesources of growth.

Consultants say their aimis not just to attract newcustomers through the doorbut to retain them forlonger with a view to sell-ing them more products. Todo this the banks need tohave more informationabout each customer andensure they are keepingthem happy by ticking

the right boxes on service.“If the model works it is a

win-win for the banks,”adds Mr Sayer.

Many institutions havealso found that a branchnetwork is key to havingthe face-to-face time withcustomers to sell themother products.

“Existing banks recognisethe importance of branchnetworks for particularproducts such as mortgagesand are having to up theirgame in order to competewith competitors who aremaking this a priority,”says Neil Tomlinson, retailbanking partner at Deloitte.

However, for banks thestrategy of staking theirreputation on customerservice is not without itsrisks.

Crucially, consultants saythey have to be sure theycan match the expectationsthey are creating.

“Banks have to be carefulhow they portray the resto-ration of branch managersin adverts as customers willbe disappointed if in realitythey see someone who isnot as experienced or sen-ior,” says Mr Sayer.

RetailThe sector isstriving to win backthe trust ofcustomers, writesSharlene Goff

‘To a degree weare seeing banksgo back to thefuture’

David Sayer, global headof retail banking at KPMG

New ideas: Metro Bank is focusing on service not price AFP

Overall lendinggrowth isessentially zero,says VickiRedwood, fromCapitalEconomics

Banks intensify charm offensiveas the public furore subsides

The worst of the financialcrisis, and the destruc-tion left in its wake, wasstill a vivid memory

when a gaggle of bank chiefexecutives arrived in Washing-ton for a late March 2009 meet-ing with Barack Obama, USpresident.

“My administration,” the pres-ident said, according to Politico,“is the only thing standingbetween you and the pitch-forks.”

Indeed, the public furore wasjust beginning for the bankingindustry even if, history wouldshow, profits would soon return.The next 19 months would findmany of the world’s biggestbanks pay back their bail-outdebts to governments, rein incompensation and withdrawfrom many riskier activitiesthat had left Wall Street in dis-array in the first place.

Landmark US legislationwould work its way through

Congress, culminating with ameasure that left few financialservices business unchanged.The international Basel commit-tee would unveil new capitalrequirements designed to pro-tect the financial system fromfuture risks.

A UK tax on bank employees’bonuses trimmed billions of dol-lars from the industry’s profits.And this year, the EuropeanUnion set rules that forced lend-ers to defer bonuses and limitcash pay-outs.

Along the way, bank execu-tives had little choice but to grittheir teeth as politicians tookturns assailing the industry formistakes that left the creditmarkets on the brink of col-lapse.

Two years on from the fall ofLehman Brothers and Washing-ton Mutual and the massivebail-out of American Interna-tional Group, large banks havesensed the intensity of anti-WallStreet rhetoric at last begin tosubside.

Time, along with a midtermUS election that saw Republi-cans regain control of the Houseof Representatives, has giventhe industry an opportunity tore-engage on the hundreds ofyet-unresolved new rules now inthe hands of regulators.

“During the legislative phaseof financial regulatory reform,

we all listened to and witnesseda lot of misinformation, heatedrhetoric and anger,” says JohnTaft, chief executive of the USasset-management arm of RoyalBank of Canada and the incom-ing chairman of the Securitiesand Financial Markets Associa-tion.

“Now we’ve moved from a hotmedium to a cold one. Fromrhetoric to analysis. From emo-tion to fact. From political thea-tre to operating realities.”

The industry has wasted little

time in seeking to exploit thisevolution. Josef Ackermann,chief executive of DeutscheBank and head of the Interna-tional Institute of Finance,warned that the new wave offinancial-services industryreforms, including thoseimposed by the Basel commit-tee, would damage the globaleconomy’s fragile recovery.

“There can be no doubt thatreforms will produce a drag oneconomic recovery, and this

means jobs that should becreated and need to be createdmay not be created,” Mr Acker-mann said during a recent Inter-national Monetary Fund sum-mit.

Meantime Goldman Sachs,which became a lightning rodfor Wall Street critics in spite ofits healthy emergence from thecrisis, launched the biggestadvertising campaign in thebank’s history in September.

The ads, which appeared inlarge US newspapers and web-sites, seek to explain Goldman’srole in raising capital for grow-ing companies – a facet of itsbusiness largely overlooked bythe public when the bank facedcharges from the Securities andExchange Commission for mis-leading investors.

And in recent weeks, Sifmaand other industry lobbyistshave made a more overt push toshape the direction of some ofthe more controversial aspectsof the US reform legislation,including a provision that banslarge institutions from engagingin so-called proprietary trading.

They have found some alliesin Congress to support theirpositions. In a letter to theFinancial Stability OversightCouncil, the Republican con-gressman who may soon chairthe House financial-servicescommittee warned regulators

that the ban could weaken USbanks and drain the markets ofliquidity.

The Volcker rule, named forthe former Federal Reservechairman who proposed it, will“impose substantial costs on theAmerican economy and marketparticipants”, Spencer Bacchuswrote. “Depending on how USregulators choose to implementit, the Volcker rule may spark amass exodus of clients from USbanks to banks based abroad.”

There may be more speedbumps ahead.

The end of the year will bringanother wave of announcementson banker pay. Many large insti-tutions have altered policies topay out a larger portion of com-pensation in stock and givethem the right to “claw back”bonuses should the value ofemployees’ trades decline. Butthere is little chance multimil-lion-dollar pay-outs to top execu-tives will not once again drawthe ire of the industry’s critics.

What is more, the regulatorscharged with creating the spe-cific rules enacted by legislationmay ignore the banks’ charmoffensive and impose stricterguidelines on issues rangingfrom capital and derivativesclearing to trading.

The pitchforks have been putaside but the industry’s profitsmay still be under siege.

PoliticsJustin Baer exploreshow institutions haveweathered voter angerand now seek to waterdown regulations

Yes they can: Goldman Sachs traders watch a broadcast of President Obama criticising financial industry efforts to fight his plan to impose tougher rules on the market Bloomberg

The pitchforks havebeen put asidebut the industry’sprofits may still beunder siege

4 ★ FINANCIAL TIMES THURSDAY NOVEMBER 18 2010

Banking & Society

Charity is about more thanhanding over a big cheque

Banks around the world areseeking new ways to engagewith charities as they lookto maximise the value oftheir community work inthese straitened economictimes. Rather than simplyhanding over large financialdonations to their chosencharitable organisations,banks are increasinglyencouraging employees togive up their time throughvoluntary work and areseeking to involve custom-ers in fund-raising schemes.

Stepping up their involve-ment with charities is oneway banks can show theyare keen to give somethingback to society in the wakeof a financial crisis they arelargely blamed for starting.

But institutions are awarethey have to tread carefullywhen it comes to rebuildingtheir reputations. Havingbenefited from hundreds ofbillions of pounds of tax-payer funds, some believe itmay not be appropriate tobe seen giving large sumsof money to charity. Banksalso do not want to be opento accusations of tokenismfrom a public that is yet toregain its trust in the finan-cial sector.

“We don’t just want to dophilanthropy – we don’tthink that’s best for ourcustomers or our sharehold-ers,” says Sharon McDow-all, head of communityinvestment at Royal Bankof Scotland, the UK bankthat is 84 per cent owned bythe government. “If share-holders – who include theUK taxpayer in our case –want to make a donation tocharity that should be theirdecision.”

Most banks – like manybig companies – will matchany donations employeesmake to their chosen chari-ties up to a certain amountper month. But when itcomes to the charity work

they initiate themselves,rather than simply siphon-ing off a portion of theirprofits for donations, banks,particularly those that havebeen kept afloat by govern-ment aid, increasingly wanta more hands-on role.

More are trying to engagetheir employees in charita-ble work by offering themone or two days extra leaveper year to dedicate to fund-raising or helping localcommunities. Some banksare also using fund-raisingprojects for team-buildingexercises for groups ofemployees. “It’s right thatwe’re in the community,but we need to add strategicvalue through the work weare doing. We do this byfocusing on the areas wherewe can make the most dif-ference for the communitieswe operate in and our busi-ness,” explains Ms McDow-all.

RBS staff gave 155,000 vol-unteering hours last yearand are expected to exceedthat number this year. Asimilar trend has also beenseen across Europe – atDeutsche Bank, the Germanbank, 14 per cent of stafftook part in volunteeringschemes last year, up from12 per cent in 2008.

Bank staff are typicallyencouraged to make use oftheir professional skills byspending their time mentor-ing small businesses or

helping improve financialeducation, for example.

Standard Chartered,which, as a British bankfocused on developingnations, principally Asia,Africa and the Middle East,recognises that it has a par-ticular responsibility tolocal communities, alsooffers a similar scheme toemployees. Each member ofstaff is entitled to two days’paid leave each year towork on one of the bank’scharitable projects, or to

pursue their own voluntarywork.

The focus for StanChartis picking up on the keyissues that are affectinglocal communities. Helpingmitigate the effects of cli-mate change is a priority,for example, and the bankalso has three of its owncharitable projects – onethat provides eye care prod-ucts to developing countriesto help tackle avoidableblindness; another that edu-cates people living withHIV/Aids; and a third that

seeks to empower youngwomen in underprivilegedareas.

These kinds of employeeschemes have the doublebenefit of not only benefit-ing the bank’s reputationbut also creating a morepositive working environ-ment for staff.

While during the boomyears some banks had analmost blinkered focus ondriving profits, many arenow switching to a moresustainable business model– and engaging staff in vol-unteer schemes is part ofthat.

Other banks – such asSantander of Spain – havealso tried to involve cus-tomers’ in charity projectsby asking them to vote onwhich organisations shouldreceive its support. Whilethese kinds of schemes areintended to show a morelong-term commitment tocharitable giving, bankshave also reacted to thefinancial crisis by makingsome eye-catching short-term commitments.

Some of the world’s topbankers, including MichaelGeoghegan, the outgoingchief executive of HSBCand Peter Sands, head ofStandard Chartered,donated multi-millionpound bonuses to charitythis year as they sought tocalm the public outcry overexcessive pay. SimilarlyGoldman Sachs, the WallStreet investment bank,considered forcing seniorbankers to donate a portionof their earnings to charity.

These actions were wel-come in a year when bigvalue donations – thoseworth £1m or more – havefallen sharply as a result ofthe recession.

The row over big bonusesis likely to turn even moresour this time around aswestern economies come toterms with the effects ofunprecedented spendingcuts. But while charitiesmay again be hoping toreceive big one-off dona-tions from image-consciousbankers, the banks them-selves believe the real bene-fit will come from the morehands-on projects withwhich their staff areincreasingly involved.

PhilanthropySharlene Goffexamines howbanks are trying todo more than makecash donations

India considers rate cap on loans to poor

In India, commercial banks,both public and private,are required to direct alarge chunk of their net

credit to designated “prioritysectors” seen as having a posi-tive impact on India’s economy,and wider society – to ensurefunds flow into areas the gov-ernment deems important, butmight otherwise be neglected.

These sectors – designated bythe Reserve Bank of India – cur-rently include broad areas ofagriculture, small scale indus-tries, small business, housing,education and lending to thepoor and vulnerable – all areasthat could otherwise find ittough to access credit.

Banks traditionally struggledto fill these priority sector lend-ing requirements – 40 per centof net credit for local banks, and32 per cent for foreign banks –especially to meet the minimumthresholds for loans to agricul-ture and the poor, or “weakersections”, as they are quaintlycalled in official jargon. Failureto meet the targets meant thatbanks had to buy low-interestbonds from the government’sNational Bank for Agricultureand Rural Development to makeup the shortfall.

But in recent years, India’scommercial banks have beenturning to specialised microfi-nance institutions such as SKSMicrofinance, a publicly listedcompany, Spandana, ShareMicrofin, Basix, Asmitha, andothers to meet their obligationsto push out credit to the “un-bankable” poor in remote ruralareas, or urban areas.

Together, Indian banks –including public sector forcessuch as the State Bank of India,private domestic banks such asICICI and HDFC, and foreignbanks such as Standard Char-tered and Citibank – now havearound $6bn in outstandingloans to the country’s 44 for-profit oriented microfinancecompanies.

With field staff travelling intoremote rural areas, these dedi-cated microfinance operations –most of which began as non-profit, non-governmental organi-sations before transformingthemselves into for-profit com-panies – have served as the “lastmile link” that pushed commer-cial banks’ money onwards toabout 30m hard-to-reach borrow-ers.

“The actual risk assessment,collections and implementingwas outsourced to the microfi-nance institutions,” saysJahangir Aziz, chief economistin India for JPMorgan. “It wasrelatively cheap, relatively easyand far less cumbersome thandoing it directly.”

Initially, the arrangementsuited everybody. Microfinancecompanies, which were prohib-ited from taking deposits,needed liquidity to make themillions of tiny loans theyclaimed would allow poor bor-rowers to start micro-enterprises and lift themselvesfrom poverty. The banks, mean-while, could fulfil priority lend-ing targets with loans to a hand-ful of large microfinance compa-nies, rather than trying to estab-lish rural network lendingthemselves.

That mutually beneficial rela-tionship helped fuel a surge inmicro-lending, with the indus-try’s outstanding loan portfoliogrowing at a blistering pace of

70 to 100 per cent a year for thepast five years. But today,microfinance institutions areunder serious regulatory pres-sure, grappling with a backlashagainst what policymakers andcritics are calling their “usuri-ous interest rates” and “coer-cive” debt collection tactics.

What regulators have cast adisapproving eye on is thespread between the rates atwhich microfinance companiesborrow from commercial banks– usually between 11 and 15 percent – and the nearly 30 per centrate at which they lend.

Simmering official dismayreached boiling point in Augustwhen SKS, India’s largest micro-lender, raised $350m in an initial

public offering that valued thebusiness at $1.5bn – and focusedattention on the fortunes beingamassed in a sector ostensiblydedicated to public well being.

A month later, PranabMukherjee, India’s finance min-ister, wrote to Indian state-owned banks, asking them toconsider a covenant in futureloan agreements with microfi-nance institutions, mandatingthat interest rates be capped at24 per cent.

The RBI also debated whetherto remove microfinance fromthe approved forms of prioritysector lending, citing concernsabout high interest rates andover-lending, with companiesextending loans to the same bor-

rowers, paying little heed totheir repayment capacity.

Yet the situation erupted intoa full-blown crisis in October,after a spate of suicides amongheavily-indebted micro-borrow-ers in the southern state of And-hra Pradesh – a hotbed of micro-lending. In a hurried Cabinetmeeting, the state governmentadopted an emergency ordi-nance last month that broughtcollections to an abrupt halt.

Besides putting the banks’portfolio at risk, regulation hasraised questions about whethermicrofinance companies will beable to operate, raising ques-tions about to what extent theywill be able to serve as the “lastmile link” for banks.

“At a big picture level, theRBI and the government in itsway have been trying to tell thebanks to go direct,” says AlokPrasad, former India countrydirector of the Citi MicrofinanceGroup, and now the chief execu-tive officer of the MicrofinanceInstitutions Network (MIN), abody representing 44 for-profitMFIs. “The belief is that if thebanks are able to go direct, theycan lend at lower rates, and thatover time is fundamentally amore stable system,” he says.“But going from past experi-ence, the banks seem to lack theDNA to achieve that.”

It remains to be seen how thewhole crisis will play out. TheMIN has said its memberswould cap interest rates in And-hra Pradesh at 24 per cent, amove it hopes will persuadeauthorities to allow companiesback to doing business and col-lecting outstanding debt.

Meanwhile, the RBI has estab-lished a committee to look indepth at the practices of microfi-nance industry, and recommenda possible regulatory frame-work. But it could take monthsuntil the political and regula-tory uncertainty is cleared up,during which time many banksmay be reluctant to extent fur-ther credit to the sector.

“The form in which microfi-nance institutions will survivewill be very, very different thanwhat they are right now,” saysJPMorgan’s Mr Aziz. For now,though, “banks are back intothis problem of trying to meetpriority sector lending require-ments again”.

MicrofinanceRelying on specialisedlocal institutions hasbackfired for banks,says Amy Kazmin

Under pressure: microfinance companies face restrictions on what they charge borrowers such as Sharda Bhandare who makes gloves in the Dharavi slum of Mumbai Bloomberg

‘The belief is that if thebanks are able to godirect, they can lend atlower rates, and thatover time is a morestable system’

Alok PrasadMIN chief executive

Far­sighted: StanChart helps reduce blindness in Nepal

Some top bankersgave their bonusesto charity as theysought to calm thepublic outcry overexcessive pay