Why don’t banks just look after themselves?
Banks’ managers and owners understand these risks, but as businesses they also need to make profit. When trying to make profit they have sometimes not acted as safely as depositors or investors would like them to. The financial crisis showed this clearly. When banks are doing well and making money they might take too many risks assuming that everything will keep going well. This is summed up by a quote from the CEO of Citigroup (one of the largest banks in the world) in 2007, who said:
When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you’ve got to get up and dance. We’re still dancing.
A few months later, the music had stopped and a global financial crisis had taken hold.
When trying to make money banks have sometimes sold products that aren’t suitable for their customers. For example, some banks made billions of pounds from miss-selling PPI (payment protection insurance) to their customers. Regulation and strong supervision can help stop banks making similar mistakes in the future.
Banks also won’t think about how their actions could affect other banks, the whole financial system and even the wider society.
Financial crises can cause people to lose their jobs, or face pay cuts, and many more will suffer from a higher cost of living. On their own, banks don’t take this into account when making decisions – regulation helps make sure they do.
Regulation helps to reduce many of the problems that could get a bank into financial difficulty. This will mean there will be fewer bank failures in the future. But whilst banks are much safer now than they were a decade ago, we can’t expect that even well-regulated banks will never fail.