One of the characteristics of banking the Icelandic way is large exposures to very few, related individuals and companies that through a badly structured incentive system was very tempting for the managers. Added to this were close personal relations between all involved. It meant, i.a. that no margin calls were made or if they were made the were met with new loans. Also, when foreign banks started to make margin calls in the winter of 2007-08 on the big Icelandic borrowers the Icelandic banks bailed them out thus yet increasing the exposures that were already close to or actually breaching the legal limits.
Recently I wrote on Kaupthing’s large exposures. An Icelog reader, Sidney Carton has just commented on this log and the Icelandic way of banking, drawing on his experience from the Thai banking crisis in the late ’90. Some very interesting points here so I thought I would draw attention to it (italics are mine):
“I was intimately involved with the operation and regulation of financial intermediaries in the US, both domestic and foreign institutions with US offices, and thus became familiar with the downfall of the Thai Banks back in the late ’90s. Approximately one-third of the banks, by number, not size, were closed, and it was then discovered in several cases, more than or nearly half of the bank loans outstanding had been made to ‘insiders,’ such as directors, officers, major shareholders and their relatives, associates, and affiliates. When I first read of your banking systems failures, my experience led me to assume Iceland had no more idea what its bankers were doing than Thailand did, and eventually Iceland would discover the human temptation to lend to yourself, family, and friends, is better than lending to enemies, and strangers, when, of the course, the reverse is true. A bank won’t collect a delinquent loan from the ‘insiders,’ but will find a way to stretch the rules etc. I also could not understand why Iceland saw fit to not impose limitations on the volume of bank loans made, since there is only so much borrowing capacity that a nation has, and it is the borrowing capacity of a nation that impacts Sovereign Credit, which stands behind the collective credit of its banks. Thailand swallowed the bitter terms of the IMF, and has recovered. I note too the double standard the world banking community operates on. Small nations are dealt with forcefully, and direct, while large nations are given all administrative forbearance to conceal the true facts concerning its income and assets. In the US, if you are not too big, for example, you are shut down. Keep up the good work Iceland.”
Icelanders did indeed have little idea what its banks were up to – but we now know. Afterwards, it’s clear that the regulators not only didn’t have a clue about the banks’ operations but they weren’t too versed either in what it means to regulate banks.
Re Carton’s point on small vs large nations I have often thought what i.a. Deutsche Bank was up to re Iceland but it certainly isn’t easy to gauge any insight into the big banks. It’s clear the the UK FSA wasn’t much better than its Icelandic counterpart but for some reason I can’t detect much drive here in the UK to understand what went on. People seem very keen on moving on. The fact that the UK government put billions to resurrect its banks, no questions asked, speaks volumes. The present government, however much it talks about banks and bonuses, hasn’t shown any wish to scrutinise the banks here that took the blank cheque from the taxpayers.
When Barclay’s Bob Diamond was questioned (do take the time to watch, most informative!) by British MPs John Mann asked Diamond if he was grateful to the British taxpayers for the money pumped into the system (Barclays didn’t take direct state money but has none the less benefited from quantitative easing, i.e. more money in circulation). Afterwards, Mann said that the question had been mischievous, he wanted to put a question to the media-trained CEO that could rattle him. Mann certainly succeeded. Though asked repeatedly, Diamond couldn’t bring himself to say he was grateful to the taxpayer. That’s probably a mutual feeling but the taxpayers haven’t been informed about what exactly went on in the UK banks that would have gone bust if it hadn’t been for the taxpayers. In Iceland, people do at least know quite a bit about the workings of the Icelandic banks before the collapse of October 2008.
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