Many countries in the world have two fundamentally different types of banks that accept deposits. One is the sort we have in the UK, which economists call “commercial” or “retail” banks. These accept deposits – a form of loan to the bank by the depositor – as a source of capital (like a loan from a bondholder or money from a share issue), and then use that capital to support loaning money out to businesses, or form personal loans, or for mortgages, etc. They make their money principally via the difference between what it costs them to obtain loans themselves (e.g. the interest paid on deposits) and what they themselves receive in interest on the loans they make, after taking account of losses on bad debts. This sort of bank is familiar to us. The other sort, “savings banks”, is less familiar. Savings banks originated to encourage thrift by the poor. The central idea of a savings bank wasn’t that one accumulated interest on savings. Rather, it was a place one accumulated savings themselves, rather than spending all one’s money on alcohol, gambling, tobacco, or life’s many other temptations. Because their function was accumulation, it was central to their purpose that the funds saved be completely safe – safety was much more important than getting high deposit interest rates. We used to have savings banks in the UK, until the mid-1980s. The last one was the Trustee Savings Bank, now part of the Lloyds banking group. The safety of deposits in UK savings banks was guaranteed by the Savings Bank Act 1817, which required that the only things permitted to be done with savings bank deposits were for them to be invested in government bonds or deposited at the Bank of England. At their height, in the 1920s and 1930s, the savings banks were as large as any of the Big Four London clearing banks. They died out in the 1970s and 1980s for three key reasons. First, high inflation in the 1970s meant that the value of savings was seriously eroded – they lost value. Second, in the Secondary Banking Crisis of the early 1970s, government intervention ensured that no retail bank collapsed. Third, in 1979 the UK introduced deposit insurance for the first time on retail bank deposits. These last two factors meant that the safety advantage of savings banks – the upside to compensate for the low-to-negligible interest paid – was diminished. Many other countries still have various forms of savings banks. I don’t believe that they can be resurrected in the UK as institutions competing directly with retail banks. But what we could (should) do is to require every bank licensed to accept retail deposits to legally nest within itself a savings bank and offer those seeking to make deposits the first option of placing money in savings bank deposits (I call them “storage deposits“). (Mervyn King is a supporter of this idea.) This would mean every bank could have a form of deposit that the government could insure 100 per cent, without limit (as opposed to the current limits on deposit insurance, which created difficulties, for example, for those selling a house before they buy). If we insured storage deposits 100 per cent, we wouldn’t need to insure other deposits as much (or even, perhaps, at all). That would greatly improve incentives in the banking sector.
The Telegraph
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