It is just over fifteen years since the granite Northern Rock crumbled, with the rubble nationalised and worse to follow. Now, Silicon Valley Bank (SVB) has emerged as a house built on sand. Together with other announced bank restructurings, it is a bad case of déjà vu, the ghosts of the Great Financial Crisis (GFC) apparently still haunting the global banking sector. The latest episode highlights yet again just how quickly stress in one part of a complex network, in this case the fin-tech ecosystem in the US, can reverberate across a much wider geographical and industrial topology.
Yet, the aftermath of the SVB bank run is more than a jolt to collective amnesia about the dangers of financial contagion. More generally, decision makers in a broad range of institutions – official government bodies, regulatory agencies and corporations themselves – seem to be afflicted by collective vision defects (for some variants, see our recent blogpost Old spectacles for myopic governments: monasteries and speculae.
In the SVB debacle, there appears to be evidence of management ‘blindness’ to basic risk management heuristics (asset-liability matching, lending prudence, and diversification). This was coupled with myopic regulatory oversight, insufficiently attentive to the importance of mid-sized banks (including SVB) and their connections within a much wider network, while it focussed on the large ‘systemically important’ banks.
So, what is to be done? As usual, we should expect renewed calls for tougher financial regulation. Too often the short-term ‘fixes’ involve ‘more is better’ regulation, simply underwriting subsequent crisis replays. As John Kay put it: “Securing the stability of existing financial institutions was exactly the right short-term response to the GFC, and exactly the wrong long-term response”. Then, and today.
Longer-term, but more urgent than ever, a more fundamental issue is at stake – the need for root-and-branch reform of financial regulation itself.
In any such re-assessment, we could do worse than start with the insight of Adam Smith. In his work, there is a vision of a topology of things/events and connections between things/events. The things are relatively easy to see (by observation), but the connections between things are harder to discern. Many connections are not seen at all. They are ‘invisible’, the sense in which Smith used the invisible hand metaphor. His mission was, to provide a better ‘gestalt’, a better understanding of the full topology of the socio-economic system.
A potentially useful metaphor for this topology comes from another human organ – the brain – a sophisticated network that has evolved to allow humanity to survive and thrive. Dr Iain McGilchrist, makes a set of insightful observations about the brain’s architecture and operation in his latest book, The Matter with Things: Our Brains, Our Delusions, and the Unmaking of the World*.
The two hemispheres comprising the human brain have evolved to attend to (literally – ‘reach out to’) the world in different ways. The right hemisphere (RH) – providing an initial broad, embodied, open attention, on the lookout for what might be missed – is, or should be, the master of this duopoly. The left hemisphere (LH) – providing analytical detail and constructing an abstract ‘re-presentation’ or map of the world – constantly needs to be re-integrated into a synthesis, again directed by the RH. Surprisingly for a network dedicated to ‘connections’, the linkages between the hemispheres have significant inhibitory capability – in Smith’s terms, we might say there is a clear division of labour embedded in brain lateralisation.
The hard work of understanding the full context is where good regulation of banking and financial markets, and indeed of any sector, should begin; a RH attention to the full system. From there, detailed undistracted analysis plays its role before a subsequent synthesis. Thus, any RH reform of the financial sector today would start from the observable but often unobserved reality of an industry that has become inward-looking, largely trading with itself. Its fragile topology is increasingly divorced from the underlying needs of, and relationships with, its customers, society, and the broader environment.
Long-term financial reform requires a gestalt shift, a fundamental re-visioning and re-shaping of this distorted web blowing in the wind from crisis to crisis. The real issues, we believe, boil down to structure and culture. The start is not ‘more regulation’. It is to re-set Leviathian’s brain to attend to the bigger and fuller picture – a restoration of RH policy thinking, in finance and elsewhere.
*Dr Iain McGilchrist will be a guest speaker at the morning session of the RPI Westminster Conference on April 19th Regulatory Policy Institute Annual Westminster Conference 2023 – The Nature of Regulation: Seeing the Wood from the Trees. The overall session will take a broad look at regulation and reform, from Ancient History through to the UK markets of medieval times, to the present day. It will then take an imaginative leap to consider what a better regulatory gestalt might look like in future.