He applied the “Page 99 Test” to his new book, Banking in Crisis: The Rise and Fall of British Banking Stability, 1800 to the Present, and reported the following:
Can the lessons of the past help us to prevent another banking collapse in the future? Banking in Crisis is the first book to tell the story of the rise and fall of British banking stability in the past two centuries, and it sheds new light on why banking systems crash and the factors underpinning banking stability. On page 99 of Banking in Crisis, the reasons behind the collapse of the Royal Bank of Scotland and HBOS (Halifax-Bank of Scotland) during the 2008 Global Financial Crisis are discussed. These banks were bailed out by the British taxpayer and they rank as the two largest British bank failures ever. The proximate cause for their failure was their reckless lending to the residential and commercial real-estate sectors in the UK. But the aim of Banking in Crisis is to get at the ultimate reason for their demise.Learn more about Banking in Crisis at the Cambridge University Press website.
Until 2008, the UK had not experienced a major banking crisis since 1825. Why was the British banking system so stable for such a long period? From 1825 until around World War II, shareholders of British banks faced calls on their personal wealth because UK banks were not pure limited liability banks – they had unlimited liability until the 1880s and extended liability thereafter. This meant that whenever banks made lending decisions, they had ‘skin in the game’, which curtailed them from taking excessive risk. From the beginning of World War II through to the early 1980s, British banks faced stringent government controls which gave them little room for manoeuvre and prevented them from making reckless loans. Starting in the 1970s, these controls were removed, but bank shareholders no longer had ‘skin in the game’ as banks had become pure limited liability and they had relatively little capital relative to their assets. This deregulation was a recipe for disaster. Over time, banks starting increasing their lending, particularly to the risky real-estate sector, which resulted in a property bubble. The collapse of this bubble resulted in huge losses for British banks, particularly those mentioned on page 99.
How can banking become stable again? The lessons of the past suggest that banking can only be stable if bank shareholders have ‘skin in the game’ or if banks face stringent government controls on their assets and lending.
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