Philip Booth argues in The Tablet that if we want a less oligopolistic financial sector we need less regulation

There is no general agreement about the main cause of the stock market boom, the subsequent crash and the Great Depression of 70 years ago. Some argue that it was caused by greed and unfettered markets, others by mis-managed monetary policy. Some suggest that the lack of regulation was at fault. Others argue that particular types of government intervention distorted markets.

Similar debates surround the recent crash. Whilst it is true, for example, that financial institutions such as investment banks have been allowed to undertake a wider range of activities, those activities have been regulated in a detailed way as never before. Furthermore, regulation of those institutions at the centre of the crash was more onerous than regulation of those that were little affected. This debate, together with the role of ethics (or lack of ethics) in market practice and the role of monetary policy will not be settled any time soon. However, that does not stop us reflecting on how financial markets might respond to the crash.

John Paul II perhaps defined Catholic thinking on a free economy most succinctly when, in a series of rhetorical questions in his encyclical Centesimus annus, he asked whether ‘capitalism’ was the economic system that best met human needs. He answered with a qualified ‘yes’ but suggested that the term ‘free economy’ might be a better descriptor than ‘capitalism’. This nuance is important.

John Paul’s justification of a free economy only partly related to the material benefits that it brings. Other considerations were important too. The late Pope described how socialism circumscribes human freedom in the economic sphere and how a free economy allows human flourishing, thus promoting the common good. A free economy does not just involve profit-maximising business corporations acting within markets. In our free economic and social lives, we can interact with a huge range of institutions with a wide range of different objectives and motivations.

Developing this theme in his recent encyclical Caritas in veritate, Pope Benedict provided a more concrete practical expression of what is often described as ‘civil society’ and carefully described examples of the many economic activities that combine a mixture of motivations and involve organisations with different corporate forms. Thus there are organisations that are profit-making but which are not just motivated by profits; there are corporations that are non-profit making (many universities for example); there are many businesses that are not corporations, and so on. These organisations all form part of the rich tapestry of a free economy. In a genuinely free society, there need be no sharp division between the market economy and civil society. Within a free economy, people will use their freedom to act in accordance with a whole range of motivations which will often be intertwined and inseparable. This is very obvious, for example, in the field of higher education where institutions, academics and students will all be responding to a variety of stimuli.

In the mid-to-late 19th century the British financial sector had a significant degree of what liberal economists call ‘institutional variety’. Indeed, the financial sector provided some of the Pope’s examples in Caritas in veritate. Organisations such as buildings societies, friendly societies, credit unions, savings banks, mutual insurance companies and so on – the list is almost endless – provided valuable financial and insurance services through corporations and membership organisations that were driven by various different motivations.

Sadly, this institutional variety is now much diminished. Some have blamed deregulation for this trend but this cannot be a complete explanation because these institutions grew up in an environment where specific financial regulation was more or less absent. There are technical reasons why many of these institutions have gone to the wall – economies of scale and improved information technology have made it easier for larger businesses to dominate the scene. Some of these institutions (particularly in the insurance field) have disappeared because the government has taken over their function. Friendly societies, for example, arose because they were effective at monitoring and helping claimants in mass provision for health, unemployment and disability insurance.

Research suggests that the hugely increased level of regulation in recent decades also played a major part in making our financial scene look so uniform and inhuman. In the days before regulation, financial institutions had to demonstrate to those using them that they were ‘sound’. They no longer have to do so. Some banks had double liability for shareholders so that customers would know that, if they lost money, shareholders would lose twice over. This helped concentrate the minds of directors! Many financial institutions remained relatively small, rooted in the community and owned by their member-customers. Life insurance companies were often owned by their policyholders, as some still are, as a way to avoid conflicts of interest between owners and policyholders: these conflicts are now managed by statutory regulation.

The increased volume of regulation also makes it more difficult for new entrants to come into the market and compete with the existing giants – there are huge economies of scale in the costs of complying with the literally millions of paragraphs of Financial Services Authority (FSA) regulation.

It is interesting that Archbishop Vincent Nichols, in his response to the financial crash, described how reams of regulation had replaced trust as a governing principle in the financial system – to little effect. I believe he was right. But, I also believe that range of financial institutions that we used to enjoy has been diminished because many of the institutions existed, at least in part, to give users of financial services confidence, in their widely varying situations, that their needs were being met.

We often see the corporatist or corporate-welfare-state economies of the US and the UK described as unfettered, liberal, capitalist economies. Those who describe them as such ought to visit the FSA or its US equivalent the Securities and Exchange Commission – or for that matter try to set up and run even a small business giving financial advice. Not only are financial systems highly regulated but regulatory systems often benefit big incumbent players. Furthermore, state support and guarantees for large ‘too-big-to-fail’ banks lowers their cost of capital and encourages them to grow bigger. Our current financial architecture, by no means, reflects a free economy.

Will we now get a resurgence of institutional variety? It is possible. Changes have been announced that will ensure that large financial institutions will be more effectively called to account for their mistakes and will be less able to rely on the state to bail them out. Also, the loss of reputation by established players is bound to benefit those financial institutions with different business models, such as credit unions. At the same time, the internet is leading to the development of a whole range of financial products where direct relationships are established, for example, between borrowers and lenders. Pension reform, especially in the public sector, might also provide an opportunity for trades unions once again to be providers of welfare services to their members.

Whilst I wish to see a return to a situation where we have less bland uniformity within financial markets, I do not wish to see this for the same reason that modern distributists wish to see it. I do not value small family-based, local institutions for their own sake or because I believe it provides a sort of Catholic ‘third way’ between capitalism and socialism. There is a real danger that the distributist model replaces large and bland, but competitive, firms with small local monopolies of the sort that existed in retailing a generation or so ago. Many would welcome a return to this style of business, but it was exclusive and expensive.

More institutional variety within the financial sector would better meet real human needs – and not just financial and material needs – within the context of a free economy. Given that so many of the functions that used to be provided by building societies, mutual insurers, friendly societies and the like are now provided by the state through regulation and through the direct provision of services, it is unlikely that we will see new types of financial institutions once again becoming mass movements: although perhaps the state will let go and deregulate and change will happen. Nevertheless, recent events might lead to new forms of institution being strengthened in niche markets. And new technological developments may lead to more direct financial relationships not intermediated by the large household names. Markets produce innovations that nobody can anticipate. The big established household names should watch out.

Catholic Social Teaching and the Market Economy and
The Tablet