Narrow Banking and John Kay

In the July 7 issue of the Financial Times, John Kay provides an easy excuse for bank managers. They are the best and the brightest he says:

“The bank executives pilloried by the UK’s Treasury select committee of MPs were all exceptional people. (…) Our banks were not run by idiots. They were run by able men who were out of their depth. If their aspirations were beyond their capacity it is because they were probably beyond anyone’s capacity.”

Thus we should not search for Supermen or Superwomen to run our banks but we “would be wiser to look for a simpler world, more resilient to human error and the inevitable misjudgments.”

Agreed. But the “best and the brightest” should have helped on the way by putting into place better control mechanisms of the agency problem in the large organizations that they were supposed to manage responsibly. Instead of that, they paid themselves huge sums of money to take absurd risks that they pretended to understand and to master.

The enormous losses that they inflicted upon unsuspecting shareholders constitute another obvious example of the “pretence of knowledge” that Hayek denounced among other hubris driven managers of other very large hierarchies, the politicians in charge of governments in our corporatist economies.

John Kay is right, however, to state the problem in terms of structures: since even the best managers will probably make mistakes in pursuing their self-interest, we should limit the magnitude of the probable losses that will be inflicted on society by limiting the size of their businesses and by making their activities more transparent. Just like individual portfolio holders diversify their risks and avoid investing massively in concentrated assets, societies at large should avoid that just one corporation, or a few of them, can mismanage amounts of a magnitude that may jeopardize the whole economy. Large banks should be broken into smaller and more specialized ones.

Curtailing the personal financial power of the best and the brightest who ran the oversized institutions that they build, and still manage them to that day, is the least that we can do as a way of insuring ourselves against a similar future disaster.