Wednesday, March 6, 2013

Universal Bank or Specialized Bank? Laptop or PC?

Is it wise to separate banking and investment banking? Does this question really matter?

To answer these questions, imagine you would like to buy a computer. Any computer consists of the following:

  • The hard disk contains exploration system and your data, even when you turn your computer off.
  • The memory stores the data that you actually need to work with when your computer is operating.
  • The processor calculates and makes your machine working.
  • The motherboard is the piece which connects the above 3 elements.
  • Accessoires such as mouse, keyboard, sound speaker, and screen allow communicating with your computer.

Going back to last week's debate about the separation of banking and investment banking,

  • the hard disk is the banks which collect and hold deposits;
  • the memory compares to any form of financial security (loan, bond, stock, and derivative);
  • the processor is the place where financial securities are exchanged and which is administered by securities firms;
  • the motherboard represents the financial system as a whole;
  • accessoires are things that represent the infrastructure of the financial system such as branches, websites, electronic trading platforms, etc..

Now, which type of computer do you buy (if ever you are still interested in buying a computer instead of an i-pad)?

  • Do you prefer buying a laptop which unifies all of the above elements? You might think that this is the most efficient tactic to buy, as professionals will make sure that all elements work together as efficiently as possible. On the other hand, you must be aware that you cannot easily change a piece of your laptop if it breaks – usually, you will be obliged to by a complete new laptop.
  • As an alternative, you could also buy a desktop computer and choose its components yourself. Here, you run the risk of buying some components that don't work 100% efficiently together. On the other hand, it's relatively easy to change a single component if one element breaks down.

So what do do? Obviously, you must make a trade-off between risk and efficiency. The safest, but also most expensive solution is to buy both a desktop and a laptop. At the other end, working only with a laptop is most efficient, but risky.

There are certainly plenty of incoherences in the above comparison. My principal goal is, however, to show three elements:

  • Banking and financial markets need each-other. They necessarily work together, no matter the shape of the participating firms' legal structure.
  • There is no right or wrong solution. It's a question of making a trade-off between efficiency of the financial system on the one hand and the costs for operating it on the other hand.
  • The most important thing to do is to monitor your system and to be prepared for a possible break-down.

In my view, the importance of a choice between separated and integrated financial institutions is probably less important than it seems at first glance.