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Too big to fail: The Bank
of England and financial crisis
Social networking key
to behavioural change
In new historical research on banking and financial regulation
from the Tipping Points project, Professor Ranald Michie finds that
banks need to evolve continually to meet challenges and that this can
require them to grow in size and extend their activities into new types of
financial products and services. Prior to the recent financial crisis, banks
were found to have taken risks because of the belief that failure was
impossible. There was widespread belief that financial innovation had
reduced these risks to a low level, and that the Bank of England could
always be relied on to support a bank that found itself in difficulties.
Belief that the Bank of England’s support would always be forthcoming
created a moral hazard in that bankers could behave recklessly, secure
in the knowledge that the bank they worked for would be saved from
bankruptcy. The fact that no major British bank had failed for over 100
years also made bankers over-confident about their ability to manage
their business in such a way as to escape the consequences of the
risks they were taking. This allowed them to generate large profits and
bonuses, but simultaneously endangered the financial system. Their
actions tended to ignore certain factors: the changed nature of British
banking as the degree of competition intensified from the late 1980s;
the inability of the Bank of England to adequately monitor what they
were doing; and the vast increase in the transactions taking place in
the inter-bank money markets located in London. Professor Michie
recommends that the Bank of England should take on the responsibility
as lender of last resort to the London money market as a whole, rather
than to individual banks. This way the financial system could be saved
if necessary without encouraging moral hazard from bankers as the
government would only guarantee bank deposits in savings accounts
wholly invested into the National Debt, which is already secured by
government.
A new book by renowned economist and author Paul
Ormerod, a researcher on the Tipping Points project,
looks at how social networking can help change
human behaviours in order to address global risks,
such as those caused by climate change.
Key Finding: When the financial crisis of 2007-08 occurred
banks relied on the support of national central banks, which was
insufficient in resolving the crisis. What is required in the future
is for the Bank of England to be able to carefully monitor bank
behaviour and have mechanisms in place to cope with both illiquidity
and insolvency. Also, closer international cooperation between banks
is essential if a future global crisis is to be avoided.
‘Too Big to Fail: UK Financial Services Reform in History and Policy’.
Economic Affairs, 32, 3. doi: 10.1111/j.1468-0270.2012.02168.x
Paul highlighted the policy implications in an article
in Nature. During the 2012 London Olympics there
was high risk of car traffic and public transport
disrupting the events due to congestion in the centre.
Public transport commuters were bombarded with
messages urging people where possible to avoid
driving or taking buses and trains, a strategy which
was reinforced by employers who allowed their
employees to work from home or have flexible hours.
The strategy worked because it created network effects
where people in social groups imitate or copy one
another’s behaviour.
Positive Linking: How Networks Can Revolutionise
The World looks at how social networking can lead
to behavioural change that is effective at addressing
risk. According to Dr Ormerod, obesity, a widely known
social health risk, is driven by the network effect of
‘peer acceptance’, where if most of your friends are
obese, it is more acceptable to gain weight. In order to
help reduce the risk of obesity, gaining weight should
be seen as less acceptable in social groups. Network
theory is important for understanding the complexity
of economic, social and environmental problems
where behavioural change is essential to resolving
them directly.
Key Finding: In policymaking, incentives should not
be given only with individuals in mind, but should
account for social networking as an underlying factor
of behavioural change.
‘Social networks can
spread the Olympic effect’.
Nature, 489, 337.
doi:10.1038/489337a
Positive Linking:
How Netw