Politicians To Take Note

Tony Greenham writes:

The Co-operative Group has announced that owners of bonds in its banking subsidiary will be forced to swap them for newly issued shares traded on the stock exchange, taking a substantial loss in the process.

This will enable the bank to raise most of the £1.5bn shortfall in capital that it has agreed with the regulators, the Prudential Regulatory Authority.

Those who bank with the Co-op should not be too concerned it will now have to dance to the tune of the stock market. The bank will still be majority owned by the Co-op Group.

It is hard to imagine why it would risk damaging its successful strategy of offering a distinctive ethical choice for customers, jettisoning its identity because of a change in the status of a group of remote investors.

There are examples of so-called semi co-operatives in other countries, notably Italy and France, but the private shareholders generally have no voting rights and do not expect to chase high short-term financial returns. They know their place.

More concerning is what the announcement means for banking in the UK. Expect to hear two conclusions drawn, both of which are wrong. First, that the successful bail-in of bondholders means we no longer need to worry about bank bailouts. Second, that the Co-op bank's difficulties prove the superiority of the private sector over mutuals.

The latter point, in particular, deserves short shrift. If the dodgy loans taken over from Britannia prove that co-operatives should not be in banking, then surely the calamitous failures of Lehman Brothers, Bear Stearns, RBS, Lloyds and Northern Rock all prove that there is nothing more dangerous than a shareholder-owned bank aggressively pursuing expansion and profits at all costs.

In fact, co-operative banks are thriving all around the world where, unlike the UK's Co-op bank, they are organised as networks of local banks that collaborate to achieve financial stability and economics of scale. They manage this without losing benefits such as strong small business lending, local ownership and decision making.

The governance and oversight by members tends to be much stronger than in the UK, preventing executives with delusions of grandeur from aping their stockmarket peers and pursuing aggressive expansion strategies. In Europe, co-op banks performed well during and since the financial crisis are gaining new customers.

The British Co-op is not actually a co-operative bank; it is a regular commercial bank that is owned by the Co-operative Group. This has a big impact on how the bank is likely to behave.

It means the Co-op has no direct local customer ownership or oversight, which is why its managers seized upon the opportunity to buy Britannia and expand their empire, without properly considering whether this move was actually in the interests of their customers.

As for too-big-to-fail, it is good to see bondholders contributing to the recapitalisation of a bank, as should always have been the case. However, this might work for a small bank suffering specific difficulties, but if one of the systemically important global banks were to suffer problems the shockwaves through the highly connected financial system would still leave taxpayers in danger of being the last chequebook left standing. The solution, of course, is to not have institutions that are too big to fail in the first place.

This brings us back to the question of banking diversity. The coalition government promised it, but has not delivered. We need more local and specialist banks. We need more mutuals and public interest banks, not fewer.

This adds weight to those who want to prevent a politically motivated and rushed privatisation of RBS. Returning RBS to the private sector unreformed solves none of the UK's structural banking problems.

The Co-op bank will remain a vital contributor to customer choice and ethical banking. The real lesson from its problems is that we are in urgent need of traditional co-operative banking, not national banks with no local element that are simply owned by a co-operative group.

We know from many other countries, including Germany, France, Austria, Norway and Japan, that diverse banking systems are both possible, and vital for economic stability. Now we just need our politicians to take note.