CHAPTER 8
Back to Basics
The financial crisis of 2007–2008 and the deep global economic recession that followed have made finance seem like the enemy to many citizens in the world. What should have brought people riches led them into poverty and darkened their prospects, with a seemingly small minority benefiting from everyone else’s malaise. But to condemn finance outright is to deprive humanity of an essential tool: although it is assuredly a poor master, finance can also be a great servant. Finance, rebooted, can help save the world. It has a colossal amount of stored energy waiting to be released and a prodigious potential to serve the common good once again. The trick is to reeducate, to lead by example, to learn to control the chain reaction, to direct its strength, and to use it well. “If you give me good politics, I will give you good finance,” said Baron Louis, minister of finance for the July Monarchy in France in the first half of the 19th century. As long as we work toward goals that make sense, the money will follow.
Back to Basics
I worked on the executive team of a universal bank during the global financial crisis. When in 2012 I left Crédit Agricole to join Société Générale, I had doubts about the basic good of my field and the utility of the tool to which I had devoted the majority of my life. I arrived to find teams dispirited, under pressure, and knocked off balance by Jérôme Kerviel’s conviction as a rogue trader and four uninterrupted, intense years of crisis, culminating in the second half of 2011 with speculative attacks on the share price that were started by baseless rumors.1
Concerned about collective mobilization and preoccupied by the deteriorating environment, I asked Michel Camdessus to speak to them. I had worked with him for more than a decade, and he was always a source of inspiration. The question I posed for his talk was “Is it possible to reenchant finance?”2 Camdessus delivered a memorable answer, which was comforting and motivated everyone at Société Générale to carry on. In short, we were to get back to the basics. Rather than renounce finance, we were to distill it back to its essence and reconnect it to the real world, to remember why human-kind invented it. Some of the most brilliant minds are drawn to the finance industry—it was time to mobilize them!
Finance: First and Foremost Just a Tool
As I’ve said before, finance is truly no more than a tool at the service of humankind. Through savings, investment, risk distribution, and analytics-based predictions, financiers are able to make time and space our allies and build our own futures. Finance is also a powerful means of liberation. Consider this insight from Jean Boissonat, one of the best-known French business journalists and my mentor, who recently passed away: “In the 1930s, vouchers were handed out for the purchase of bread and other staples. How humiliating! Imposing a specific end use for expenditures is disrespectful and denies a person’s free will—it denies their individualism.”3
I am always shocked to hear condescending remarks about the place of the poor—“If I give them money, they’ll only drink it away.” So what! Drinking isn’t the problem in this scenario; it’s the lack of dignity. I have always been convinced that financial autonomy, access to credit, and savings contribute to an individual’s freedom, allowing them to dream big and make their ideas come to life. It is precisely this core tenet that we should all reembrace when we think about the best way to use money for the greater good. It is not to adopt what can sometimes be the rather patronizing views of the elite but to ensure that the power resides with everyone.
Finance: An Extremely Powerful Tool Like No Other
Financial inclusion programs play a major role in helping to empower people. Queen Máxima of the Netherlands, having herself worked on Wall Street, is an active champion of financial inclusion, and I have had several opportunities to collaborate with her. Despite some economists’ doubts about their effectiveness, microcredit programs offer the chance for participants to take charge of their own lives and rejoin the global market. I get emotional remembering a woman I spoke with while I was in Bihar, one of the poorest and most heavily populated Indian states located at the base of the Himalayas. I entered the village, dripping with sweat in the 105° heat, to meet with a group of women to hear about the progress of a village project deployed by the World Bank in their community, one of hundreds of such projects. The idea was to create a village minibank funded by the institution to support local initiatives. I sat for an hour on the ground talking with one woman, roughly my age in years but who looked 20 years older, evidence of our different life trajectories. Her gaze fascinated me (I still keep her photograph in my office), and so did her story:
Five years ago, I was nobody; I lost my husband after he fell from a tree [and this created a precarious situation for me in India, as widows are considered nonexistent]. I found myself with eight children, all unmarried [another real problem, since we count on dowries here]. But thanks to microcredit, I bought my first goat, then a second, then a third, until now I have a herd of 15 goats. I also created a small notions store. Everything has changed for me. Now, I do exist, I have a name, and my children are married.
The simplest financial mechanism in the world can change the lives of women, and they can be free; such is the empowering force of the market. From helping one woman to oiling the wheels of international systems, it is the same money, even if it takes different forms.
The Universal Appeal of Finance
Finance is a precious instrument for use in the service of the economy. It is also a catalyst for cohesion: as a universal language, it is a pliable tool to get women and men cooperating with one another across borders. It allows us to share our wealth and coordinate our efforts. For example, through a limited liability company, we can combine smaller contributions into a larger amount of initial capital to increase the number of lives we can touch. On the flip side, finance requires trust and cooperation: you can’t be a financier all on your own, and finance is not possible if you just shove your dollars under the mattress.
For all these reasons, finance can be a decisive source of leverage and, today more than ever, development. Whenever human society has a need for physical or social infrastructure, in particular for access to healthcare or education, it also has a need for financial infrastructure, whether it be a banking system or financial markets. Securitization, discredited through the use made of it to package subprimes, nonetheless allows issuers and investors to distribute and diversify their risks. It remains a useful instrument to efficiently channel financial resources to the real economy.
The mobilization of domestic savings is another powerful source of leverage: after all, our Western economies used this tool to grow during the 19th century, launching the steel industry and railways in the United States, England, France, and Germany. Chinese savings—mandatory, to a large extent—like Japanese savings years before, also contributed to equipping and developing these two countries.
The large public institutions created in 1944 by the Bretton Woods Agreement, the IMF and the World Bank, were specifically mandated to support such development in the medium and long term. This required careful and clear leadership, delivered then by the United States as well as the United Kingdom. More than ever, while the major SDGs of 2015 await implementation, these institutions play a critical role in the preservation of financial stability and in the search for the money needed to fund the transition to clean energy, build infrastructure, and provide access for all to healthcare, education, energy, and technology. Visiting the yurt of a shepherd on the remote Mongolian steppe, I was stunned to see his traditional tent home decked out with the latest modern technologies. I was there in the context of a World Bank program on universal access to electricity provided by individual off-grid solar panels.4 Invited into his home, I found the man, dressed in a style two centuries old, who offered me yak butter tea (a specialty) in a timeless room containing the traditional Buddhist bed and altar—plus a flat-screen TV and a Wi-Fi–enabled mobile phone. Even more surprising, thanks to his cell phone connection, this sheep and goat herder had access to agricultural insurance to manage the risks associated with his livestock, which faced threats such as extreme temperatures from one season to another. All this was possible through just a few solar panels!
“Devil’s Dung but a Very Good Manure”
At its root, finance is like money as Saint Teresa of Ávila described it: “the devil’s dung, but it makes very good manure.” This financial instrument was horribly corrupted in the years leading up to the financial crisis by actors who if not ill intentioned were at least indifferent. Uncontrolled, finance has become a blind and uncontrollable force. But it would be such a shame to renounce it—the world would lose so much! Instead, we should take back the reins of this tool, which has long attracted the brightest minds, and remobilize our efforts for the common good. Let’s continue to encourage innovation, as long as the end result has lasting benefits for humankind. We must remember, this finance, this money, is ours not theirs; reasserting control and driving its use by clear signaling is our collective responsibility.
Finance Development, Not Just Growth
To reassert control, we must learn how to better distinguish growth from development. I often cite the 1987 declaration of the Ecumenical Council of Churches: “Growth as an end in itself is the strategy of cancer cells. It is the uncontrolled proliferation without limit or regard for the system supporting it that leads to its degeneration and its death. Development, on the other hand, is the strategy of embryos: putting things it needs in its proper place at the proper time, with care to respect the relationships between them.”
What a strong image! At its most basic, growth leads to the creation of GDP. It is not very complicated: all you have to do is rev it up and let it go. We could manage to create an extraordinary level of GDP! Growth is this mechanical augmentation of wealth produced, whatever the wealth may be, and some harm that is its means of proliferation. On the other hand, development (meaning harmonious, thoughtful, controlled growth) is much higher maintenance and sophisticated, and it is the only viable trajectory for globalization. We cannot allow globalization to be overtaken by this cancerous logic of a finance that can be anything and allow anything. The same is true for digital technology. We urgently need to put humanity back at the center of it, to ensure that the tools we invent are used solely for the benefit of humankind. We must get back on the path of development rather than growth, and not only for the poorest countries. All countries face the challenge, wealthy ones included. This is the ambition of the 2015 SDGs.
Rekindling a love for finance, then, is nothing else but giving it back some meaning: a meaning it had lost, or maybe had neglected for some generations. We have to give it meaning and heart; this is core to rebuilding the trust. This is the message I was asked to instill at my last Société Générale speech presenting the bank’s 2012 annual accounts. I developed the image in three stages: (1) “The Core– T1 Ratio is Good,” (2) “Group Logo as a Red and Black Heart, and (3) “The Care– T1 Ratio is Better!”5 Finance is not just a matter of ratios, it’s also a matter of care—a matter of the heart (coeur in French).
Avoiding the Temptation of Cynicism
To address this matter of the heart, we have to rid ourselves of any cynicism we may have once had toward finance’s clients, their peers, and the profession. Without a doubt, we cannot reenchant finance if the actors who had used and abused this instrument, even in small part, continue to play the system and shirk responsibility, waiting for the crisis to pass. It would be too easy to pretend, given the pipe dreams of reform, that global finance is a force too big to do anything about and that the system will simply have to adapt. We have seen where this kind of logic leads us.
Yet some habits persist! Cynicism’s roots go deep. For instance, consider the manipulations of the LIBOR interest rates, or those on the foreign exchange market in the United Kingdom, which continued long after the start of the financial crisis. The thoughts expressed directly from the mouths of the bosses at the large American banks in 2010, when worldwide regulations were being established, also bear witness to this. In the spring when Congress was beginning to review the Dodd-Frank Act, one of them told me, “What instructions did we give our lobbyists in Washington? It was simple: legislation is necessary, it’s the price we have to pay for what we’ve done, but make it so it’s not too painful.” The underlying message being, they would wash their hands clean and get back to the same dirty business.
I heard a similarly striking message in September 2010 in Brussels, at the Eurofi meeting (known as “the bankers salon”). I was grabbing a quick bite for lunch with some of international finance’s biggest names, and I asked one of them, “Will the Dodd-Frank law mean you have to review your banking model?”
“Oh, you know this framework law, it’s a bit like the Bible, over 2,000 pages that you just need to learn to interpret,” he answered. “The only difference is, of course, the authors of the Bible are dead!”
“But you will still have to give up some of your practices!” one of my French colleagues retorted.
“You know what the market’s like,” he said. “It’s not a fire station where you wait for the alarm call to pull on your boots and helmet to go put out the fire, then head back to the station. The market is like a moving walkway at the airport: It moves 24/7. I wake up at 5:00 a.m. and step onto the walkway. When my client arrives at 5:05, I help him up; then when he leaves, I stay on to follow the market in order to be able to help him. You see what I mean?”
I was shocked and I still am. And I tried to express my views at the time and have since then.
This story truly reflects the spirit of the era, in which we clung to the idea of an uncontrolled market with the conviction that no law could ever change it. It is this mind-set that so many find abhorrent and that caused significant swaths of the public to lose trust in the whole system and raise existential questions.
The Temptation of Total Regulation
The opposite extreme, to base the reform of the financial system on regulation alone, would not be helpful. Certainly, getting finance back in the hands of regulators and legislators is necessary, even indispensable to regaining control of the blind force we had allowed to run free. To control means to define rules and sanctions, to set up radar, guards, and arbitrators, to set goals more sustainable than the obsession with earning ever-increasing wealth. Before long, the financial system had encouraged collective greed—remember the famous “Greed is good” slogan popularized in 1987 by Michael Douglas’s character in Oliver Stone’s film Wall Street—among underwriters, bankers, insurers, and savers and the morally reprehensible behaviors of a select number of heads of large businesses. It was time to get the lines moving.
The responsibility for regulation was largely incumbent upon national governments, central banks, and the international cooperation of the G20. In the United States, for example, the Dodd-Frank Act, now threatened, was adopted by Congress in July 2010. Dodd-Frank created a Financial Stability Oversight Council (FSOC) and tasked the Federal Reserve with the surveillance of global risk. These mechanisms gave the United States the ability not only to influence but to lead a race to adopt the highest and most efficient forms of regulations consistent with each country’s aims. Beyond the regulation of derivative product markets to reduce the accumulation of risks, or the obligation of lenders’ solvency for real estate loans, one important aspect of the law focused on commercial banks, which can no longer hold more than 3 percent of their own funds in shares in hedge funds or capital investment funds. Another significant change, in principle, was that taxpayers could no longer be asked to bail out financial enterprises in trouble. These, at any rate, were Dodd-Frank’s stated goals.
In this new environment, the creation of the Financial Stability Board (FSB) at the G20 meeting in London in April 2009 represented an important event. This council, drawing from the G20 heads of central banks and chairmen of the treasuries of member states, as well as certain international organizations such as the IMF, World Bank, and the OECD, today constitutes the steering body for worldwide financial stability. It is tasked with identifying the system vulnerabilities and defining standards (or the coordination of their development around the world) to manage them, in collaboration with international standard setters. For example, the FSB defined a list of systemically important international banks, those considered “too big to fail,” the collapse of which would cause a complete breakdown in global finance. Such banks, compared to other banks, have additional capital requirements. The FSB also looked into the organization of derivatives markets, systematically encouraging the use of official clearinghouses.6 It also promoted principles regarding remuneration of market operators and the identification of the institutions that act as counterparts to a financial transaction.
In order to protect us from a new systemic threat, the Basel Committee of the Bank for International Settlements adopted new ratios for bank solvency in September 2010 (called “Basel III”), that raised the minimum capital required of banks.7 The establishment at the end of 2015 of loss absorption mechanisms (total loss-absorbing capacity [TLAC] at the global level8) has rounded out this prevention system. The final regulatory effort to date was the adoption in May 2016 by the G7 finance ministers and central bankers of an action plan to strengthen the global fight against financial terrorism. The work continues.
Gaps remain in these international regulations. The exposure of banks to sovereign debt (up to now considered to be risk-free and thus exempt from the limits imposed on bank assets made up of corporate and household debt) is still not regulated and has created disagreements among the ministries of finance of the EU. Discussions about what could be called “Basel IV,” and in particular the use of in-house models validated by regulators as opposed to standard approaches identical for all, are ongoing.
The Rise of Market-Based Finance, aka Shadow Banking
Shadow banking is a so-called parallel banking system, known more now as market-based finance, which encompasses those actors and activities that contribute to the economy through nonbank funding. This system is not in itself bad, but it has not been subjected to the same attention as the banking system. That said, we should not think of it as a Wild West situation in which anything goes: pension funds, hedge funds, life insurers, stock managers, and the like are all regulated, sometimes strictly. But it would be worthwhile for us to integrate the supervision and regulation of this system into a global approach to the funding of our economies.
The global approach that has been developed has facilitated a significant improvement in global standards. The participation of all the largest economies in particular is critical. Such a multilateral approach is at risk amid the rising nationalism around the world. It is easy to turn one’s back on such forums because they can be cumber-some. However, to do so would be to risk that some other forms would fill the vacuum, which could lead to unintended consequences that may be much harder to change in the future. Matters of finance have become predominantly global issues; taking a nationalistic approach will inevitably lead to a breakdown and result in stark imbalances. Even if this nationalist approach seems tempting and easier rhetorically, there will be no control regained solely at the domestic level.
We must consider several changes that have occurred in the shadow banking system: the change in scale of a sector that represents just under $100 trillion of assets under management; rapid growth outside of the United States and Europe, in China, for example; the proliferation of connections between all actors in the financing of the economy, both bank and nonbank based. Beyond the piecemeal regulatory contribution of this system, there is also the question of the manner of financing our economies: How much debt should there be? How much capital? How much for banks? How much for the market? What level of profitability? What level of transformation?9 These questions do not appear to garner the same response from every country. But they cannot be ignored or addressed separately over too long a period. We must use a holistic approach that will spark debate at a sufficient level about the conditions for financing economies: at the level of nations, of regional unions or alliances, and in some cases of the world. The question of financing infrastructure is a classic: the whole world recognizes the enormous need for roads, ports, airports, power plants, and the like, and has called for a greater involvement of the private sector, but at the same time, no one has mobilized to address the regulatory checks or behaviors that hinder a greater involvement of pension funds or insurers and push the banking sector away. The regulatory approach should combine the negative (don’t do that!) with the positive (do that!), prescriptive (you must!), and incentive (do this to your benefit!).
Beware of Unintended Consequences
Some regulations, however, have clearly resulted in unexpected effects, or so-called unintended consequences. The case of correspondent banking was a revelation to me, as I acknowledged in a 2015 article cowritten with Mark Carney.10 Until the 2007–2008 crisis, several large international banks (such as Deutsche Bank, JPMorgan Chase, and BNP Paribas) acted as ports of entry to the international financial system by offering up the use of their infrastructures to financial institutions from many countries. These so-called correspondent banks allowed local banks to give their clients access to the services of a more distant institution such as for currency exchange or transfer of funds to a foreign account. Capital flows traveled via these intermediaries, and each domestic market was connected to the world. With the crisis and regulation of the system, fines, from the Americans in particular, proliferated against banks that did not respect embargos or anti–money-laundering rules.11 Faced with significant sums of losses sustained, a number of establishments decided to pause their correspondent banking activities in Libya, Mexico, Saudi Arabia, or Somalia, having calculated that the risk of doing business with them was too high—or at least that they were not compensated for such risk. As a result, we have isolated or are likely to isolate some emerging or developing economies from the international financial system.12
Regulators cannot ignore such consequences. To do so would be neglectful of the purpose of the financial reforms undertaken by the G20, specifically the support of an open and flexible global financial sector that truly serves the economies of the world. It would also encourage the circulation of illicit funds through unofficial channels. We have to understand the magnitude of this problem and its causes, to ascertain facts, drawing once more on the experience of the World Bank Group and other development players. We should then also standardize the application of international norms, create interpreting bodies for them (particularly interbank partnerships), and clarify the expectations and uses for technology to this end (specifically blockchains13).
In another field, the regulatory treatment of securitization, which is today subject to strict requirements, would also allow it to be reviewed because it could discourage investment. The EU has begun work on this issue.
If we wish to reset finance on a “purified” basis, we must find the right balance between a necessary arsenal of regulations and a necessary fluidity for circulation of capital. In short, we need to find the proper amount of breathing room for the financial system: the proper level of detail in the definition of roles, the proper degree of cooperation between regulator and regulated, and the proper level of sharing of responsibilities. Above all, we must think of the system as a whole, not as pieces. We have to start thinking about how to streamline everything. With this effort comes a real health warning. A move back to a relatively less regulated environment, if balanced correctly, may indeed make sense. We cannot view what happened with the global financial crisis as leading to finance simply being put in the penalty box, only for it now to be unleashed again in a postregulated world where we swing back too far the other way with respect to the level of oversight and checks and balances. If we go down that path, we will create a future certainty, a repeat of the same mistakes, and this time, perhaps, with even more far-reaching consequences. And, as one would expect, this reform will start by reestablishing at all levels a culture of accountability and responsibility.