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When a high-street shopping chain starts shutting branches it usually means it is in trouble, but when banks do so, their shares – and profits – seem to boom. What’s up?
We have just had yet another round of branch closures this week, this time from the Lloyds group. That’s 61 branches of Lloyds itself, 61 from the former building society Halifax, and 14 of the Bank of Scotland, so 136 in all. The consumer magazine Which? runs a count of what is happening and reckons that there have been more than 6,000 closures since 2015.
The group that has closed the largest number is the NatWest group, which, aside from NatWest itself, also comprises the Royal Bank of Scotland and Ulster Bank. Their score is more than 1,400 closures since January 2015.
But banking as an industry is not in trouble. Indeed NatWest shares have more than doubled over the past year, and at around 434p are beginning at last to close in on the price of 499p that the former Labour government paid to rescue the Royal Bank of Scotland in 2008 and 2009.
The Government’s holding – having at one stage been 84 per cent of the bank – is now down to below 10 per cent, with the rest of the holding sold off at a loss. So even if the price does get back above the 499p mark and the final tranche of shares can be sold at a profit, it will not have been a great investment for taxpayers. What is happening? There are three main forces driving this recovery.
Digital revolution
The obvious, and for many people infuriating, one is that banking is going online. That is what is driving the branch closures. If you can get customers to use an app instead of going into a branch, you cut your costs and can probably cut your fees at the same time.
The mushrooming growth of purely online banks forced the traditional ones to develop their online services too. It has been government policy for the past decade to encourage online challenger banks, so you could almost say that this string of branch closures has, in part at least, been the result of government policy. It would have happened anyway, but maybe more slowly.
The second thing that is happening is the climb in interest rates. When they are low it is harder for banks to make any money. Between the banking crash of 2008-09 and the surge of inflation after 2020, they were lower than at any time in modern history – according to the Bank of England, even since the Black Death in the middle of the 14th century.
The impact on banks of near-zero rates is that while they don’t have to pay much interest for their money, they don’t get the endowment effect on their interest-free deposits that they normally would.
To explain: if interest rates on savings deposits are, say, 5 per cent, and banks lend out at, say, 8 per cent, that is an adequate margin. However, if in addition to its savings deposits, the bank has a pile of money on current accounts paying no interest at all, then that is a super margin.
But if savings accounts pay only 1 per cent and the bank is lending at 4 per cent, it is again getting an adequate margin – yet the advantage of also having funds from interest-free current accounts does not help boost margins so much.
So the return to more normal rates of interest have brought a huge benefit to the industry worldwide. Thus shares in America’s biggest bank, JPMorgan Chase, are up 56 per cent in the past year.
Growth, growth, growth
There is a third force, more nebulous but probably more important in the next few years. Governments around the world have realised that beating up the banks with higher taxes and greater restrictions is bad for growth.
Small and medium-sized companies depend on the banks for credit. Bigger ones have options. They can go to the markets. More than half the debt of larger UK companies in 2019, just before the pandemic, came from the markets rather than banks. But it is the smaller companies that generate much of the country’s output and provide most of the jobs, 16.64 million last year.
Customers come second
Governments of both main parties in Westminster have loaded additional taxes on banks since 2009, but while that may have helped public finances, it has also damaged the cost and availability of funds for companies, particularly small and medium-sized ones.
It is hard to pin in down, but there seems to be a mood worldwide that governments need to boost growth. We had an example of that from Rachel Reeves yesterday. And the share price of the industry is having a re-rating as a consequence of this shift of government priorities. After 15 years of consolidation, it needs to become a growth industry again.
None of this means that the bank branch closures will stop. The shift to online banking seems set to run strongly for a while yet, and the challenge to provide local banking services to people who still need branches and use cash is a huge one. But it is one that has to be met for both social and economic reasons.
People need bank branches, companies need the branches. Banks have to work out ways to provide those services in a cost-effective way. And governments have to recognise that a bigger economy needs bigger banks.
Need to know
Banks have never been popular through history, with the subsection of money-lenders particularly so. William Shakespeare’s Shylock in The Merchant of Venice was a sophisticated exploration of social attitudes to usury, of borrowing and lending, and squaring these with other ethical values. A much more recent study of the role of money and of people who shape it was The Lehman Trilogy by Stefano Massini, which looked at the way in which Lehman Brothers was built up into a considerable New York investment bank, only to implode in 2008 and nearly bring down the global financial system with it.
My own wish is that hostile attitudes towards the financial services industry which have been evident over the centuries would recede a little. Much of the blame for the Lehman collapse should be directed towards the regulators, which in the US encouraged people who were not really creditworthy to take out home loans, and then allowed the banks to parcel up those loans and sell them on.
In 1997 here in the UK, the incoming chancellor Gordon Brown took bank regulation away from the Bank of England and hived it off. It is impossible to prove whether this led to the two Edinburgh-based banks, Bank of Scotland (BoS) and Royal Bank of Scotland, being inadequately supervised, but it is plausible.
Actually I think distance also mattered, for no bank headquartered in London (aside from Lloyds, which was pushed into rescuing BoS and otherwise would have been fine) needed taxpayers’ money. Others that did – Northern Rock and so on – were based outside the Square Mile.
The wider point here is that it is not only banks that are disliked by the general public. Insurance companies are also often in the dock, and sometimes quite rightly so. Fund managers are criticised. The whole pensions industry, which we desperately need to expand, is distrusted.
All businesses, particularly giant ones, need to be kept in line. But I think we have to ask whether finance is in some way more distrusted than, say, car manufacturers or pharmaceutical companies. There is a public interest in securing the banking system, for if a bank goes bust it can create a run on the entire financial system, whereas if a car company goes under, that is seen as normal commercial life. But that does not explain the wider disdain.
The best way of countering all this is indeed better regulation, and that perhaps is the big lesson of the past few years. A string of things need to be done: less box-ticking, more flexible requirements, more consumer pressure to lift standards. But one thing is sure. Most of the world’s big banks have histories going back a century or more. This is an industry that will survive, because we can’t do without it.
This is Armchair Economics with Hamish McRae, a subscriber-only newsletter from The i Paper. If you’d like to get this direct to your inbox, every single week, you can sign up here.