Why Banks Are Doomed: Technology And Risk

Why Banks Are Doomed: Technology And Risk

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

chart courtesy of Market Daily Briefing

The problem with concentrating leverage and moral hazard is that risk is also concentrated. And when risk is concentrated rather than dispersed, it inevitably breaks out of the “riskless” corral. This is the foundation of my aphorism: Central planning perfects the power of threats to bypass the system’s defenses.

We can understand this dynamic with an analogy to bacteria and antibiotics. By attempting to eliminate the risk of infection by flooding the system with antibiotics, central planning actually perfects the search for bacteria that are immune to the antibiotics. These few bacteria will bypass the system’s defenses and destroy the system from within.

The banking/financial sector claims to be eliminating risk, but what it’s actually doing is perfecting the threats that will destroy the system from within. Another way to understand this is to look at what happened to home mortgages in the runup to the meltdown of 2008: the “safest” part of the financial sector ended up triggering the collapse of the entire pyramid of risk.

Once we concentrate risk and impose perverse incentives and moral hazard as the foundations of our financial/banking system, then we guarantee the risk will explode out of whatever sector is considered “safe.”

Once you eliminate the “risk” of weak bacteria, you perfect the threat that will kill the host.

The banking sector cannot be reformed, for its very nature is to concentrate systemic risk and moral hazard into breeding grounds of systemic collapse. The only way to eliminate the threat posed by banks is to eliminate the banks and replace them with transparent exchanges where borrowers and owners of capital openly bid for yield (interest rates) and capital.

Bankers (and their fellow financial parasites) will claim they are essential and the nation will collapse without them. But this is precisely opposite of reality: the very existence of banks threatens the nation and democracy.

One last happy thought: technology cannot be put back in the bottle. The financial/banking sector wants to use technology to increase its middleman skim, but the technology that is already out of the bottle will dismantle the sector as a function of what technology enables: faster, better, cheaper, with greater transparency, fairness and the proper distribution of risk.

There may well be a place for credit unions and community banks in the spectrum of exchanges, but these localized, decentralized enterprises would be unable to amass dangerous concentrations of risk and political influence in a truly transparent and decentralized system of exchanges.

Of related interest:

Certainty, Complex Systems, and Unintended Consequences (February 14, 2014)

Our Middleman-Skimming Economy (February 11, 2014)

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