American banking was functioning well enough before Congress permitted nationwide banking in 1994 and repealed the Glass-Steagall Act in 1999. These two acts led to the development of banking giants, which, it is said, cannot be allowed to fail.
There was a time when banks did what they did best to serve their communities within their trade areas, in a traditional fashion, competently, and responsibly. Commercial banks took demand deposits and made commercial loans. Savings banks took time deposits and made mortgage loans, and neither of the two ventured into fields outside banking.
At a time when the banking industry is under attack, a return to that old-time banking religion may be desirable.
The history of lending goes back 4,000 years with the merchants of Assyria and Babylonia. It developed with banking families such as the
Medici, and evolved with institutional banks just before the discovery of America. The oldest bank in the world, reportedly, is “Banca Monte dei Paschi di Siena” founded in 1472. The constant in lending, however, remains the ability to make good loans, which are repaid according to terms.
Bankers must follow the Prudent Rule. A wise American banker of yesteryear postulated that bankers do not take risks, they only underwrite them. Which means borrowers must assume the risks, for bankers cannot. That is because bankers lend depositors’ money – public money – and, therefore, cannot put it out at risk. Those bankers who do are not truly professionals.
There is another category of lenders, venture capitalists, who, as the name implies, lend private capital to risky ventures. If the ventures succeed, the venture capitalists may reap handsome profits. If not, tough luck.
Pawnshop loans are collateralized by merchandise, which assures repayment to the pawnbroker. Loan sharks take out a life insurance policy on the borrower. Default is not an option. These two categories of lenders do not take risks, even though they operate with their own money.
Unfortunately, sometimes loans go sour, for whatever reason, and then are assigned to a loan adjuster for collection. But when a loan has been made to a foreign entity, the loan adjuster has no recourse. He cannot send the sheriff to collect, let alone the Marines.
It was said that the Soviet Union would not let loans extended to its satellite states go into default. That was wishful thinking.
Before analyzing a loan application, a banker must resolve two questions: Does it make sense? And is it constructive?
A request for the purchase of a large winter-sports inventory by a Florida retailer, or a request for livestock financing in Beverly Hills would not make much sense. (The latter is something I actually witnessed once while serving as an officer on the platform of an international bank branch in Beverly Hills. Two gentlemen, applying for a cattle financing loan, were out on parole, one of the conditions of which was not to set foot in a bank.) Thus, there would be no need to proceed any further.
Of course, not every situation is so simple, and that is where a banker’s experience is essential in making a determination.
A loan to be used for speculative purposes is not constructive, does not serve the community, is inherently risky, and thus should be denied.
After passing the first tests, a loan application must be analyzed according to standard practice.
Every loan application presents different aspects demanding diversified knowledge and experience on the lender’s part. Often times a banker must be specialized in a particular field such as construction, agriculture, or international financing.