FEWER BANKS, FEWER CRISES

Adam POSEN (Institute for International Economics, USA)

I was reading an article in the New Yorker the other day, and it was a history of how people have tried to reduce the number of traffic fatalities in the United States. Essentially, there were two basic strategies undertaken: there was the strategy of making safer cars and there was the strategy of trying to make better drivers. If your goal is to reduce fatalities, these both seem like legitimate means. And so we have things like airbags and crumple zones to make cars safer and we also have Mothers Against Drunk Driving and "wear your seatbelt" regulations to make safer drivers. But what never really occurred to anybody, this being the United States, was to reduce the number of drivers. If you have fewer drivers, you have smaller accidents and fewer fatalities.

Like traffic fatalities, financial crises are bad, so the fewer, the better. When we look at financial crises and really think about the historical record (and what was discussed at this conference), financial crises are in essence banking crises. So as with traffic, you can try to make a safer banking sector by having prudential rules and credit standards, and so on. You can also try to make safer bankers and better bank supervisors by exchanging experiences at conferences like these and having the BIS' Financial Stability Institute train everybody, and instilling market discipline. I am going to suggest instead that the best strategy to prevent future crises should be reducing the number of banks. If traditional deposit-taking, long-lending banks were to play a reduced role in most economies, and therefore the amount of damage bank failures could do was limited, the extent of financial crises would be more limited.

Of course, this raises questions of what economies give up when you reduce the number of banks, and how feasible or likely it is to reduce the number of banks. I will argue on the first point that you are not giving up all that much by reducing the number of banks, that other financial services can replace them easily for both borrowers and depositors. On the second point, I will suggest that the trends in corporate finance and technology are so strongly against traditional banking, that the public policy issue is how to assure sufficient safe exit of banking firms-feasibility of exit is not a problem.