Naturally, individuals and investors alike have had immediate concerns around safeguarding their cash, as well as the outlook for the banking sector going forward. But to coin a phrase, sometimes to go forward, you have to go backwards first. Given that it tends to create an emotive response amongst business owners, entrepreneurs, and institutions, this feels like an opportune moment to consider how the legal and regulatory landscape in financial services have evolved to where we are today. It is probably fair to say that the current legal and regulatory structure for banking services is not the result of some grand plan or strategy. It is the outcome of a set of accumulated responses to a succession of financial crises, scandals, personalities and political whims. Fifteen years have passed since the global financial crisis, yet with the recent banking failures it is still very fresh in our minds. This may have been down to it being so unexpected given the long-term forces of globalisation, deregulation and innovation that had preceded it since the mid-1980’s. The consensus as to what caused the 2008 crisis can probably be summarised as follows: the risks were too high, the rules were too soft, and supervision was too lax.

It did though reveal how global and interconnected the financial system had become. The response was for countries from around the world to come together and agree on a large set of reforms that took a systemic approach to risk for which Basel III was the bedrock. This meant banks became subject to higher risk-based capital, leverage capital, and liquidity requirements. There was also significant consumer legislation introduced to both protect, and provide recourse to, individuals.

Achieving this consensus was of course a great achievement, but implementing it and making sure everyone adhered to it was not so straightforward. You don’t have to look far to see examples of banking becoming more national, strategic ring-fencing of certain business units and some tentatively withdrawing from the global stage. The knock-on effect of this can be that any deviation from the standards agreed upon in Basel are likely to affect the net stable funding ratio and leverage ratios. This unprecedented level of regulatory scrutiny was meant to ensure that banks were in a much better position from a solvency and liquidity perspective.

Most would consider these measures prudent, however businesses still need to operate and banks will continue to search for a yield. As an era of quantitative easing and low-interest rates was ushered in during the last ten years one of the main problems banks faced was profitability. This led into the next evolution of the financial services market which was technological in the form of digitalisation. This presented a great opportunity to unlock new business and cut costs.

This opportunity was also attractive to others such as small and agile fintech start-ups or the big and powerful tech giants, for instance. It also appealed to non-banks who wanted to engage in lending but without the constraints of regulatory scrutiny and supervision. This of course meant non-bank lenders are typically less capitalised than the regulated banks and there is no pathway or criteria for what would happen from a servicing perspective should they go out of business.

Digitalisation, as with any opportunity, does have its risks – as we saw recently with the collapse of Silicon Valley Bank, which many view as the first social-media fuelled bank run. The amounts, and speed with which they were withdrawn, were eye-watering: $42 billion in a single day, nearly a quarter of their total deposits. The rapidity of such a bank run has raised concerns about the fragility of financial institutions in a digital environment epitomised by easy cash withdrawals and the swift spread of information on social media and other spaces online, where panic among a few can grow into a stampede for the exit. It also begs the question, is more regulation needed to prevent this happening again?

It could be argued that the measures put in place post Basel, such as guaranteeing deposits of up to £85,000 should a bank collapse, prevented similar bank runs here in the UK. On the flip-side those against regulation would argue it is only going to make it harder to be a business-owner in the UK. Obtaining loans and lines of credit will be much more difficult as banks implement much more stringent stress testing and the bar for a borrower’s creditworthiness continues to be increased.

This debate will of course rage on but we seem to be seeing an old story unfolding before our eyes. In times of crisis, everyone agrees that tougher rules are needed. But as soon as things start to get better, rules are suddenly seen as preventing banks from doing good business and the economy from growing.

Consequently, rules are softened, banks are “released”, the economy grows, and the seeds for the next crisis are sown – because such growth cannot be sustained in the long run. Sustainable growth needs to be financed by stable banks that price risks correctly and cover them with adequate capital. It’s a simple lesson, but one we seem reluctant to learn.

For more information please contact Jon O’Donovan at John.odonovan@haroldbenjamin.com