Common Misperceptions about Public Banking

PBI-logo-without-tagline (2)There are many misperceptions about public banking. In this blog post is from the Public Banking Institute’s (PBI) website, PBI answers.

When grouped together these misperceptions may be summarized as follows:

1) Public banking is riskier than the current system. In fact, the opposite is true. The only thing that saved the private banking system from complete bankruptcy in late 2008 and early 2009 was a backroom deal in which the U.S. taxpayer bailed out the so-called “too big to fail” (TBTF) banks, both domestic and foreign, to the tune of 16 trillion dollars. What was the cause of the failure of the TBTF banks? Speculation in derivatives (sub-prime mortgages) and commodities (now causing inflation in the world’s food supply). Compare this to current public banks: the Bank of North Dakota (BND) weathered the crisis in fine shape, because its employees have no incentive (bonuses) to gamble, and it has played an integral role in the State of North Dakota’s economic success (lowest unemployment, biggest state budget surplus, most community banks per capita, and lowest number of bank failures in the U.S.); and in Germany, the large private banks are trying to shut down the public “state” (county) banks because they say they can’t compete with them. The reason for these public banking successes is simple—rather than diverting public monies (tax revenues and rainy day funds) into speculative instruments and private foreign industries that compete with domestic industries, the monies are leveraged in the public interest to create jobs and stimulate local economies. This is not rocket science. Banking is banking. The question is who should profit on public funds—the public or a few private individuals?

2) Public banks compete with private banks. This in entirely dependent on the mission and function of the public bank. In the case of the BND, there is a very strong public-private partnership that increases the profitability and stability of the local community banks (again, North Dakota has the fewest bank failures in the U.S.), because the BND participates in local loans with capital and expertise, without stealing the local banks customers (as is the case when the large commercial banks are party to local loans). This is why the North Dakota Bankers Association supports the BND—it helps the independent banks compete with the TBTF banks, who are trying to put the smaller banks out of business through economies of scale and pointed regulations that burden the smaller banks.

3) Private banks are already providing the services that public banks would replicate. If this were so, then there would be no liquidity crisis on Main Street, where lending to small business has almost completely dried up. Private banks claim that lending to small business has decreased because there aren’t enough small businesses with viable credit, but this is a completely disingenuous argument, given that that TBTF banks, through their ownership of the Federal Reserve, have been instrumental in shrinking the money supply and thus necessarily creating the conditions where bankruptcies, foreclosures, and liquidity issues are commonplace. This strategy on the part of the TBTF banks is what they try to pass off as the normal “business cycle,” which is nothing more than a means of acquiring the fruits of labor at fire sale prices. There have been 19 recessions since the creation of the Federal Reserve System, all designed with this result in mind, just as the financier Andrew Mellon notoriously proclaimed, “During depressions, assets return to their rightful owners.”

4) Government being in the banking business is both inefficient and a potential source for mischief caused by politicians. Let’s not argue this point – let’s assume it has merit. Under the BND model, it is the private bankers who decide who get the loans! In other words, commercial loans originate with the private sector (community banks). Risk/reward is then shared with BND at the will of the community bank through BND’s loan participation program. So, loan expansion/contraction is clearly driven by the private sector. There are only a few exceptions to this, but “no more than 4-5* over the last 30 years,” in the words of the former Senior Vice President Trust/Treasury Services, whom we specifically asked regarding this.

Another way to look at this is the public sector sets up the standards and the programs that identify how liquidity is injected into the economy, and the private sector not only gets to vote on each deal but has skin in the game for each deal. They can’t throw them over the fence, which is what is what had been happening in the public sector mortgage securitization market.

* These exceptions have more to do with building infrastructure (water pipeline, oil refinery) and are publicly debated and reviewed by the state legislature. As such they are similar to Infrastructure Bank investments, and are rightly debated in the public forum.

5) The return on a state’s investment with public banks would not be significantly better than the return on investment which the state is currently receiving with private banks. As is often the case, those unfamiliar with state-owned banks tend to evaluate them with the same frame of reference that they use for private banks. This is a natural mistake, but one that distorts the comparison, because state banks are doing more with the state’s money to benefit the state than private banks do, because the private banks invest the state’s money to benefit their private shareholders, not the citizens of the state. So, comparing the return on a state’s investment with public banks to return on a state’s investment with private banks is like comparing apples to oranges.

For example, a state bank returns much more than just the income on investments, including interest income and the multiplier effect on local economies, based on partnership and participation with local banks. In the case of the Bank of North Dakota, in addition to its investment income, it returned over $300 million to the state general fund over the past 10 years. In addition, the economic stimulus generated from increased loans to small businesses, farms, students, etc., must also be added to the return on a state’s investment with public banks.


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