The Bubble That’s 126 Years in the Making: The Banks are a Lost Cause

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When we look back at financial crises, the one that always stands out is the Great Depression.

I mean the name alone is just so evocative. And the event itself was dire from a Western perspective.

For Australia though, the Great Depression isn’t the height of financial strife. No, our darkest financial hour had come much earlier. Back in 1893 to be precise.

That was the year of the Australian Banking Crisis. A crisis, like most, that started with greed…

In the 1880s Australia was booming. Both in terms of industry and population.

Melbourne for example, was home to 280,000 people at the start of the decade and finished it with 445,000. At one point it was thought to be second only to London in terms of size within the British Empire.

There is even speculation that Melbourne may have been the richest city in the world for a time. But that claim didn’t last long.

See our supposed riches were due to property. Yes, just like today, people were paying ridiculous sums for houses. A market that was rife with speculation and inflated asset prices.

In time the sector became overleveraged. The amount of lending going on for building and buying homes was out of control.

The banks were just giving away cash to practically anyone. And they could, because no one had the power or desire to stop them.

That is until it blew up in all our faces.

Too big to fail

To give you an idea of just how bad this crisis was, look at the data:

Money Morning

Source: RBA

[Click to open in a new window]

The bottom (darker) line shows the 1893 crisis, and the top (lighter) line the Great Depression. At its worst, our GDP per capita stooped far lower during this banking racket.

Things were bad. Really bad.

Once the first banks began to fail, the run inevitably began. People wanted to get their money out and fast.

All this uproar and panic could have led to major structural challenges. Like those seen in recent banking crises in Ireland for example.

Had we seen widespread liquidations, the impact could have been even worse.

Instead, the banks and their creditors did something unusual. They decided on a reconstruction scheme. One that would mean they would wear the financial burden in order to keep the banks alive.

In effect, they adopted a ‘too big to fail’ strategy. Except the business and people behind it, would burden some of the cost. Though the whole economy still suffered as well, just not as badly as it could have.

At the time it probably seemed like a miracle. Those behind this mess were actually trying to own up to it. It certainly helped keep banking afloat.

But, insidiously, it also meant nothing really changed. The greedy and ill-gotten nature was still there, it was just dormant as the fragile economy recovered.

As Melbourne University professor David Merrett notes:

The lack of a targeted response in the aftermath of the crisis or in subsequent decades remains a puzzle. On one level, the 1890s crisis solved itself through workouts whose parameters were set by a series of court-sanctioned private treaties between the parties involved. The economy eventually resumed growth. Australians muddled through.

To my knowledge, there was no articulated view that a private rather than a public intervention was the optimal response. On the contrary, at that time the character of the Australian polity had a decidedly interventionist bent.

However, bank reform to provide for prudential regulation was lost among the plethora of other initiatives for generations, partly because, in the absence of another bubble generating widespread instability at the core of the financial system, Australian bureaucrats, bankers, and politicians continued to neglect prudential issues.

Coming home to roost

So, what does this history lesson actually mean?

Well, just look at the week that has been in banking.

Westpac has been taken to task by AUSTRAC. The accusations are some of the most egregious ever levelled in this country.

If true, Westpac may be complicit in not only helping fund child labour, but also child pornography. And that doesn’t even cover the supposed fraud, laundering, and other criminal payments.

It would seem the greed that once got the better of our banks, is back. The reckless abandon that brought them to the brink, is back.

It’s not just Westpac either. Each of the Big Four have been under fire lately. Each have been embroiled in some sort of scandal.

Well, I can guarantee it will change now.

Fines simply won’t be enough. It’s too late to punish them into good behaviour. The culture is far too embedded for that.

The banks are a lost cause. But, that doesn’t mean all will be lost for us.

Today’s world is very different to that of 1893. We have means to create new financial systems and channels.

New players, new products, and new thinking will change banking. They will build a new ecosystem free from the tainted foundations of the past.

We’re already seeing the early stages come to life through neo banks and fintech startups. Ventures that are beginning to compete with and eat away at the banks’ market share.

My colleague, Ryan Dinse, has been banging on about this story for months. One that is unfolding before our very eyes. As he sees it, the banks are facing their extinction event right now.

Things are bound to get tumultuous, perhaps even destructive. But, it is for our own good.

It’s time for the banks to face the music that has been playing for 126 years.

It’s time to pop the mother of all bubbles.


Ryan Clarkson-Ledward,
Editor, Money Weekend

About Ryan Clarkson-Ledward

Ryan Clarkson-Ledward is an Editor at Money Morning.

Ryan holds degrees in both communication and international business. He helps bring Money Morning readers the latest market updates, both locally and abroad. Ryan tackles all the issues investors need to know about that the mainstream media neglects.

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