Incredible shrinking of banks as clients go elsewhere

It looks as though the greatest long-lasting victim of the global financial crisis could be “the bank” itself. In different places and for different reasons, banks’ centrality to the economy is being nibbled away.

At a retail level, there is the growth in crowdfunding or peer-to-peer services. Spurred by public distrust for conventional banks and aided by ever stronger and more ubiquitous online technology, start-ups have usurped traditional banking roles in business lines ranging from foreign exchange to raising capital for ventures.

In Africa, payment services have even leapfrogged those in the West and introduced ways to pay over a mobile phone that exclude the bank as intermediary altogether.

INCREASED DEMANDS ON CAPITAL MARKETS

However, disintermediation is also happening at the level of large corporations, and it is happening globally. Companies that would once have financed themselves with bank loans are increasingly looking for finance from the bond markets.

And the process can only accelerate from here. That is the finding of research produced by Standard & Poor’s (S&P), the rating agency. S&P said outstanding debt securities will grow by 55 per cent over the next five years to US$18.6 trillion (S$23.2 trillion). Bank loans will not go away, but, over the same period, they are expected to grow by only 39 per cent to US$53.9 trillion. Steadily, banks are going to be disintermediated.This extends trends already in place, driven by different factors in different regions.

In the United States, the share of debt securities of total corporate debt had climbed from 36 per cent in the crisis year of 2008 to 50 per cent last year. In the eurozone, the capital market is far less well developed than in the US and banks maintain a 61 per cent share of corporate debt funding. But this is down from 69 per cent in 2008.

As the sector’s difficulties continue, the opportunity for more lending via capital markets — up from 10 to 15 per cent of total corporate debt over that time — can only grow. While banks remain horribly constrained by the pressure to bolster their capital ratios after the crisis, economic growth can only lead to increased demands on the capital markets.

This is why the European Central Bank is trying to foster the growth of securitisation in the eurozone and why it is likely to succeed.

In China, where capital markets make up only 6 per cent of outstanding corporate debt, up from 4 per cent five years ago, the government wants state-owned enterprises to tap debt markets. Beyond China, emerging markets across the globe want to nurture debt markets, issuing in local currency. This reduces the risk that sharp devaluations can force defaults for companies that borrowed in dollars, as happened in the 1990s.

RISKS AND UNCERTAINTIES

Mr Paul Watters of S&P also points out that corporate treasurers want diversification in their funding sources, so they can reduce their reliance on banks for term funding.

Also, with rates low, the appeal of fixed-rate market financing can only grow compared with floating-rate finance from banks.

Demand from investors should also stoke disintermediation, particularly if interest rates continue to be low. Pension funds — under pressure from regulators to find ways to guarantee meeting their liabilities — want any alternative that can offer them a decent yield.

More high-quality corporate debt would help them to do this.

Are these developments healthy? At one level, the benefits of moving away from reliance on the banking business model are obvious.

The less that economies are reliant on banks, the more it becomes possible to allow them to fail, introducing a new and welcome discipline to the sector.

For corporate treasurers, more and varied sources of funding improve their negotiating power. Disintermediation should mean cheaper finance for everyone, because less money goes to intermediaries.

But there are downsides. Markets may be more rational and efficient than banks’ lending officers, but they also have a tendency to overshoot before arriving at the right price.

Disintermediation of banks also means the disintermediation of human judgment and leaving more to the caprice of markets.

Further, there is the question of what banks will find to do with their spare time. The Western world has suffered a long trail of financial crises, which owe much to the after-effects of banks losing business lines to the capital markets.

For example, the growth of the corporate paper market, which robbed banks of the lucrative business of short-term loans to large companies, helped prompt forays into areas such as leveraged buyouts and loans to less developed countries in the 1980s.

This did not end well. So there are risks and uncertainties with disintermediation.

But it still makes sense to assume that banks’ role as the central intermediary will continue to erode.

THE FINANCIAL TIMES

ABOUT THE AUTHOR:

John Authers is The Financial Times’ senior investment columnist.