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Punishment of banks? Be careful what you wish for

Penalties for misbehaving banks must be weighed up carefully to prevent longer-term damage to many parties

Paul Hunt MS blog

Last December, it came to light that authorities in the US would fine Standard Chartered Bank $327m for hiding transactions that harmed US sanctions against rogue regimes, associated with Libya, Sudan and Iran.

A day later HSBC agreed to pay US authorities $1.9bn to settle claims it had a part to play in money laundering for “drug king pins and rogue nations”.

Added to this shady picture are the overly risky lending practices prior to 2008 and the manipulation of the Libor rate.

There is a growing consensus that the financial sector needs a make over. For the vast majority, many believe serious measures must be taken to improve standards including better communication, severe punishments and better regulation in order to hold banks to account.

In an historical context the penalties are record-breaking and it has sparked controversy over how large financial firms are prosecuted.

Unavoidably, bad press will continue to result in global financial institutions turning their heads sideways as they become nervous about doing business in London. It is time to rise above the widespread bank-bashing in recent years.

Increasingly stronger methods of punishment may deter problems from arising within the banking sector. By making bad behaviour progressively more expensive, banks are more likely to call a halt. National authorities seem happy to dish out more weighty fines.

The cost of financial damage is even greater compared to the original fine that banks pay to state authorities as banks are subsequently punished by the markets with drops in share prices.

Supporters of the banks argue the size of the penalties in HSBC and Standard Chartered’s situation reflect the fact they are based abroad, without any domestic political base to represent them. The settlement process seems somewhat arbitrary considering the rumours that the settlement numbers changed repeatedly during the bank and government negotiations, as the regulators did not want to be seen to be placing less serious penalties than it has on other banks.

The penalties are in effect imposed on shareholders. Not one corporate employee faces charges as an end result. Problems with punishing banks can end up leading to further problems down the line, as fines push up the expense of doing business rapidly and these costs can harm clients and the wider public.

The uncomfortable question is has a category of banks become too powerful to crash, but also too dominant to control? HSBC and Standard Chartered escaped uncertainty as their ability to operate in America was no longer threatened. Maybe an outright prosecution of HSBC was weighed up, but it’s thought to have been rejected due to the damage the impact would have on the bank’s feasibility, while creating a knock on effect on jobs and the American economy.

Better regulation rules are vital for creating better rules of the game for banks. For too long blurry regulation in the financial industry has enabled gross misconduct by bankers. To tackle these problems, financial regulators have polished up the rules by thrashing out the details of Basel III. And closer to home, in the UK the FSA is creating a package of regulation that will aim to separate the dicey practices of investment banks from the more predictable activities of retail banking.

Banks must tidy up their acts and emphasise the traditional virtues associated with banking including prudence, accountability and accuracy. By focussing on profound change in the ethos of the industry, the financial sector can take big steps towards a more sustainable UK financial system with a crucial shift away from deeply embedded values of extreme risk. 2013 calls for a fundamental rehabilitation of the financial market.

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