Safety check: Are our banks now safe?

The collapse of Lehman Brothers in 2008 saw the start of a prolonged global financial crisis

If, as we are constantly being told, the world's banking system has been rebuilt and strengthened so that it can resist and survive even the toughest of economic conditions, why does it always seem to be banking shares that fall the most when the markets get nervous about the prospects of another crash?

In part the answer might be that they are not as solid as we have been led to believe. After all, the man who headed an inquiry into the future safety of Britain's banks has told the BBC that plans drawn up by the Bank of England to prevent another crash aren't strong enough.

Sir John Vickers, who led the Independent Commission on Banking, said that banks should have more money in reserve, to enable them to survive any future financial crisis without a bailout from the taxpayer.

With banking shares already being hard hit this year because of worries about their strength and stability, those comments by Sir John will be of serious concern and will add to what many will see as logical scepticism.

Before the last financial crisis, we were told that the banking system was solid as a rock. Unfortunately, Northern Rock and Lehman Brothers proved that the Bible is right - even the most solid-looking house is vulnerable if it is built on sand. It turned out that a large number of the world's banks were built on very soft and shifting sand.

Volatile share prices

They had borrowed money short term and lent it long term. They had lent it to clients who couldn't afford to pay it back and put it into risky complicated investments they didn't really understand. It then turned out that the banks had nothing like enough reserves to cushion them from a crisis. They managed to do all this while convincing us that financial services were the future and bankers should be paid a fortune.

The consequence was that the ordinary taxpayer, many of whom have probably never had a bonus in their life, had to bail out the banks and the bankers with hundreds of billions of pounds, most of it borrowed. That has hobbled us with huge debts for decades to come, while suffering the worst recession in living memory.

Funding problems at Northern Rock triggered the first run on a British bank in more than a century

But perhaps the people who suffered the biggest losses were those who had put their life savings into supposedly safe as houses banking shares, they saw their money wiped out. The depositors were saved by the Government, the people who had lent money to banks in the form of bonds mostly got their money back but the shareholders suffered.

It is therefore hardly surprising that shares in banks should be so volatile at the moment. After all, we have received numerous warnings that something is seriously wrong with the world's economy. The prices of oil and many other commodities have plummeted because of over-supply and lack of demand, the Chinese economy is slowing down dramatically and the eurozone still has real problems.

All this while many economies are still being propped up only by emergency medicine eight years after the crisis first started - very low interest rates, the printing of extra money and huge Government borrowing.

Last week Janet Yellen, the head of the US Federal Reserve, spooked the markets when she merely suggested that although the American economy was doing well it could be threatened by problems from other countries.

Contempt

It has all been enough to push share prices lower on fears that another economic crisis might be on the way and like a particularly expensive game of pass the parcel, no-one wants to be left holding bank shares if, or when, the banks go bust again. But how likely is that?

Some banks are, of course, stronger than others, the Greek banking system has lurched from crisis to crisis even over the past year and doubtless there are others in similar difficulties in plenty of other places.

"There is always some chance of recession in any year," Fed chair Janet Yellen said last week

It would be a brave (as in foolhardy) investor who put their life savings into Greek or even Portuguese bank shares. But those are known risks. The big worry is; how risky are the big international banks? Are the huge international Swiss, British, French, German, American and Japanese banks safe?

In theory the answer is yes. The banks have been told to get their house in order and have been doing just that, especially under something called Basel 3, an international agreement to massively increase the reserves the banks have to hold in case of losses or a massive economic shock.

Then there has been a whole rash of new banking regulations at the national and international levels, designed to stamp out reckless behaviour, limit risks, and make sure that the regulators know what is really going on.

Having covered a few fraud trials recently, it is patently clear that before the crash many banks and bankers treated both regulators and their internal compliance departments with barely concealed contempt and did all they could to get round the rules.

That may still be the case in some banks but you are far less likely to get away with it now. Finally the banks have been desperately trying to improve their balance sheets and profits; they have had to write off billions in bad debts, improve their lending practices and concentrate on core businesses rather than obscure financial instruments.

Even so many are still trying to recover from the trauma of the credit crunch. Only this week Commerzbank, one of Germany's largest banks, announced that it was setting even more money aside to bolster its reserves.

And Deutsche Bank said it is to buy back bonds it has issued, an attempt to strengthen bolster its balance sheet, its shares are down almost a third so far this year. Given the current stock market mood those are probably wise moves. But it show that eight years after the credit crunch there is still more to be done.

There are doubtless plenty of banks out there that are as solid as a rock and capable of withstanding almost anything thrown at them. The problem is not so much finding out which ones they are but the fact that last time they all looked solid as a rock as well.

You can reform, regulate and prop up banks as much as you like, but shareholders should remember the old motto: "Once bitten, twice shy."