



At the recent Occupy debate on "Socially Useful Banking", Andy Haldane argued strongly for culture change in banking, and particularly in retail banking - the sort of banking that ordinary people rely on for their payments, their short-term savings and their loans. And he claimed that structural separation of retail banking from what are viewed as "higher-risk" activities such as investment banking and trading would end cross-contamination of culture and enable retail banking to return to its roots in relationship management and judgement based on local knowledge. He said that the ring-fencing of retail banking as proposed in the Vickers report on reform of banking may not be enough and full separation would be considered if necessary.The roots of his remarks lie in the prevalent belief that the changes in retail banking in the 1980s/90s were a consequence of the liberalisation of investment banking in the so-called " Big Bang " of 1986. He comments that:".....financial and human resources were diverted away from retail banking services and non-bank activities towards investment banking. At the same time, the culture and practices of investment banking infiltrated retail banking - a sales culture which culminated in harmful cross-selling and unlawful mis-selling."I don't agree. I think the changes in retail banking arose from introduction of American marketing and retail sales techniques, and from technological change that enabled economies of scale in back-office processing. Investment banking had very little to do with it: by the time of Big Bang, retail was already a low-margin, cut-throat business in which the weaker players found it very hard to make significant profits. I would suggest, rather than investment banking draining retail, that the significant move towards investment banking throughout the 1980s was driven to a considerable extent by the poor returns in retail banking. Nor is it true to say that investment banking drained resources from retail: yes, the people working in retail were reduced in number and de-skilled, but there was enormous investment in IT at the same time. The change in retail banking was exactly the same as the change happening in retail shopping at the time - the crowding-out of small high street shops with huge out-of-town shopping malls: the replacement of personal service with glitzy product displays and sales staff paid on commission; investment in IT for highly efficient, low-cost manufacture and delivery of "products" using largely automated "production line" technology.I have reason for saying this. In the late 1980s and 90s I worked at Midland Bank , which was the first bank to transform its retail operations into the sales-driven model with which we are now so familiar. Midland was dreadfully short of money: it had been (as we now know, fatally) weakened by its purchase and subsequent sale to Wells Fargo of the highly-indebted American bank Crocker, the last in a long line of aggressive domestic and overseas acquisitions, many of them merchant and wholesale banks. To those of you familiar with the causes of the downfall of RBS, this should sound horribly familiar.....but Midland was not bailed out by taxpayers. Its future was different.In 1986, when I joined the bank, Midland was already going into a period of retrenchment. It consolidated its merchant and wholesale banking activities with its international businesses to create its Midland Montagu subsidiary, which was both functionally and legally separate from the rest of Midland Bank. In other words, it created structural separation between its core retail business and its investment banking activities. I worked for Overseas Systems Support at the time, and I remember the transfer of my department to Midland Montagu about a year after I joined: we all had to sign new employment contracts that differed significantly from our Midland Bank employment contracts.Driven by the American Gene Lockhart, head of Domestic Banking, Midland embarked on a massive programme of automation and centralisation of its retail back-office operations. It created huge dedicated processing centres, highly automated and thinly staffed. Back-office functions such as cheque processing and payments were removed from branches and consolidated in these processing centres. Branches were redesigned to be like retail shops, staffed with sales staff whose job was not to provide a service but to sell "products": they were given challenging sales targets and their pay became partly commission-based. Some branch staff were made redundant - especially the older, more experienced (and more expensive ones): the rest were retrained as sales staff. Branch managers were redesignated as sales team leaders and the job became less senior: their authority was severely curtailed as Midland created specialist credit officers, not based in branches, whose job was to make lending decisions on the basis of credit scoring and customer history.The changes made by Midland did improve the performance of its core retail business and probably enabled it to stay afloat longer than it otherwise would have done. But inevitably, other retail banks such as Nat West soon followed suit, and the competitive advantage that Midland had gained proved short-term. Midland also suffered losses in its investment, wholesale and overseas banking activities, including a completely ridiculous loss of £20m caused by "wrong positioning" on money market trading (traders had taken an open punt on the direction of interest rates and were caught out when the Bank of England raised interest rates), and was heavily exposed to Latin American bad debt. Provisioning against this virtually wiped out its profits, so it embarked on a programme of cost-cutting and redundancies, which it euphemistically called the Profits Improvement Programme (PIP). No-one was fooled. A new word joined the lexicon: anyone made redundant had been PIPped.But at the same time that it was cutting costs all over the place, Midland also embarked on a large (and expensive) project to improve its financial and management information-gathering and reporting so that it could make better use of its capital and manage funding and risk more effectively. I worked on that project: its budget was more than Midland's entire profits in 1991. Something had to give.In 1992 Midland was taken over by HSBC, which was looking for an escape route from Hong Kong in anticipation of the return of Hong Kong to China in 1997. This takeover was presented to the world as a friendly merger - and indeed it was the only realistic solution to Midland's problems: chronic shortage of money can only be solved by marrying money...... But internally it was nothing of the kind. The financial information project that I was working on was cancelled (after all, HSBC had pots of money, so it didn't need to use advanced capital, risk and liquidity management techniques to glean a few more basis points on RoE). All Midland's systems were migrated to HSBC's platform. Hundreds of staff at all levels, but especially in middle management, lost their jobs. But HSBC didn't reverse the changes in retail banking that Lockhart had driven. The sales model in retail banking remained, and indeed remains to this day at HSBC.The final nail in the coffin of "traditional" retail banking was the conversion of building societies into banks, starting with Abbey National, which led to significant consolidation of retail banking and the creation of the "super-banks" we now have. The age of "supermarket banking" had arrived.The purpose of this extended tale is to show that the cultural issues in retail banking are not because of "cross-contamination" from investment banking. They came from the retail sector itself. The model for the future of retail banking was not investment banking: it was shopping. Banks created "one-stop shops" where retail customers could go to buy all the products they needed, including pensions, insurance and, for business customers, derivative products: banks knew they could make far more money from selling these products than they could from providing core banking services, so branch staff were given aggressive sales targets for selling non-banking products. The mis-selling that Haldane refers to stems from this cause, not investment banking. And despite all the scandals, NOTHING has changed. Branch staff still have sales targets, still exist to flog you "products" rather than provide banking services. My local branch recently started opening on Saturdays - but not to do boring banking things like depositing money. No, all you can do is discuss your financial product requirements with sales staff. The cash desk is closed.Haldane cited Svenska Handelsbanken as a current example of a retail bank that was "doing it right" - creating small local branches that served their local communities and rewarding its employees on a "pool" basis rather than individual sales targets. I absolutely endorse this: just as we are beginning to rediscover the benefits of small high-street shops providing a personal service, so we also need to rediscover the benefits of small bank branches providing a personal service.But I would issue a word of caution here. Actually, for retail banking the shopping model is not a bad one: the problem with "supermarket banking" was the aggressive selling, the drive for short-term profit at the expense of long-term customer relationships, and the lack of effective regulation. Providing efficient, low-cost banking services does require centralised, automated operations, and with the advent of telephone and internet banking the need for local provision in ordinary banking activities is reducing fast. In my view there is still a place for supermarket banking, just as there is still a role for supermarkets: not everyone has the time to visit lots of little shops to get their weekly shopping, and not everyone can afford the higher prices that small shops tend to charge. Banking is the same: small scale and personal service comes at a price.The abuses in retail banking must end. But to do that we need to understand what caused them, because otherwise we will not know what to change. Separating retail and investment banking made no difference at Midland Bank. I strongly suspect it will make no difference to retail bank culture this time round, either. The changes must come from within.