Here is the text of a letter which I am sending to a couple of my favourite economists.
Gentlemen: I wonder if you can help me with an economic question which you are probably better able to answer than me. I am interested in the overall medium and longer-term impact of the funds being disbursed by banks to members of the public as compensation for “mis-selling” of various financial products. I don’t have a figure to hand but I think it runs into billions.
There is considerable anecdotal evidence that these funds are having a positive impact on the housing market. Consumers who have received pay-outs are more likely to trade up, to buy new household equipment and appliances, and indeed to buy new cars. So there is an immediate boost to consumer spending, which is clearly positive.
But it occurs to me to wonder: in overall economic terms, is it better for a bank to lend £10,000 to Mr. Patel to open a corner shop, or to Mr. Higginbottom to invest in a new widget machine for his factory? Or is it better to give it in compensation for mis-selling to Mrs. Lumsden, to spend on a new Mini?
Clearly banks which are paying out large aggregate sums in compensation are less able to build their reserves, and less able to lend. And because they will be less profitable, they will be less able to reimburse the government for bail-out funds they may have received. They will pay less tax, so the Treasury and the tax-payer lose out, and they will pay lower dividends to shareholders, and so indirectly to investors and pensioners.
So as with most economic questions, there are winners and losers. On balance, are we better or worse off as a nation in consequence?
There is also the matter of justice and moral hazard. It takes two to tango, and it takes two parties to a transaction that is later found to be “mis-selling”. There is the mis-seller, but there is also the mis-buyer. Are we saying that the purchaser has no obligation to check the facts, understand the offer, read the small print, be circumspect, exercise due diligence? Can we confidently make any purchase, carelessly, rashly and fecklessly, and subsequently blame the seller and demand compensation? Is caveat emptor dead?
I am put in mind of the New Testament account of the wise and foolish virgins. (For those readers — probably a majority — who are unfamiliar with it, ten virgins undertake an overnight vigil before a wedding. Five have sufficient oil in their lamps, five don’t. When the foolish virgins run out of oil, they ask for some more from the wise virgins. But they refuse, lest they too should run out).
Only now, it seems, the wise virgins will be obliged to sub-out the foolish, and they may all run out. Those bank customers who mis-buy products and then receive compensation are in effect transferring the consequences of their error to other customers of the bank who did not make the same mistake (and to investors, pensioners and tax-payers). Is that fair? Or am I missing something? As Peter Simple used to say, “I only ask because I want to know”.