Towards a Google Bank

By Felix Salmon
July 6, 2010
Adam Ozimek has a bright idea:

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Adam Ozimek has a bright idea:

Allow any company to become a bank with a very minimal regulatory barrier if they do 100% reserves on deposits. This means people will know their money is there whenever they want it, which will make the “bank” safe from runs, which will eliminate the need for FDIC insurance or heavy handed regulation.

In principle, I like the idea of non-banks like Google and Wal-Mart being able to conduct banking-style services. It works fine in other countries, like the UK and Mexico, and in principle anything which increases competition in the banking sector should be good for consumers.

On the other hand, I don’t see any reason why these new banks should be less regulated than existing institutions. Indeed, in the first instance — the first two or three years of operation, say, while the model is still untested — I’d want much more regulation, even unto a complete ban on lending. And I’d certainly want these institutions to voluntarily submit to the oversight of the Consumer Financial Protection Bureau, even while they were under $10 billion in size.

It’s also worth asking exactly what Ozimek means by “100% reserves on deposits.” What counts as “reserves”? Would uninsured deposits at banks count? How about money market funds? Would they all need to be available on demand at par? And would the reserves count as the cash reserves of the parent company for accounting purposes? If so, could these banks ramp up against their current cash reserves without having to make any extra reserving actions at all, happily lending out everything they take in as deposits?

Even with strict controls, there are some interesting things which Google might be able to do in the payments space, including building payments functionality right into its Chrome browser and Android OS. Indeed, Google’s already moving in that direction without a banking license.

The reason that Ozimek wants loose regulation when it comes to these new entrants, of course, is that it’s much harder to do any kind of payments innovation when you’re part of a regulated institution. Which is why companies like Visa and Mastercard, even when they were owned by banks, weren’t actually banks themselves. But the problem is that if you want to encourage innovation, you also have to encourage failure. So the question I have for Ozimek is this: do you want to see a payments system fail? And how do you build a system which can cope with such a failure, if you’re not keeping a close regulatory eye on it?

6 comments

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Bank Simple is planning on providing banking services without being a bank.

Posted by davew | Report as abusive

Felix,

As a faithful reader of your work for many years I can say that this blog entry strikes me as perhaps the most interesting you’ve ever written.

As a banker and market participant I think it is obvious that a lack of capital is holding back some extreemly noble (capital intensive) projects; wind farms, solar farms, rehabing housing stock, and many others come to mind.

It would be great to see some new particapants get into the capital allocation game. More on this topic would be much appreciated!

Posted by y2kurtus | Report as abusive

That Google app looks identical to the one I created for the PayPal X Developer Challenge earlier this year:
https://www.x.com/docs/DOC-1864

Posted by bryanX | Report as abusive

At first this looked reasonable, then I remembered GMAC. I suspect there are older examples, which convinced people it was a bad idea for an ordinary company to try to be a bank too. Does anyone have any relevant history? I would guess it would be in the 1900-1930 timeframe, since that’s the period of the other forgotten lessons that are currently biting us.

Posted by KenInIL | Report as abusive

It has been public policy of the United States since 1933 to separate banking interests and industrial/commercial interests. Why? Because when industrial or commercial interests have access to the public’s deposits through their own bank, they are tempted to use those cheap funds for expansion of their own enterprises. As a result, the third-party control mechanism of credit allocation is subverted. And the nation’s savings are mis-allocated. Do you really want to go down that road?

And yes, Felix, it may have worked in a few places, but the merging of bank and commercial/industrial interests has been catastrophic in many other countries over the last 40 years including Argentina, Ecuador, Thailand and others. Most of these had the characteristics of “Jeff Skilling Meets Allan Stanford.” You get the picture, I hope.

And with all due respect, I think both you and Ozimek are a bit naive about a commercial enterprise’s appetite to be regulated. Bank directors and executives are personally liable for losses of insured depository institutions. Does the Google board really want to be on the hook in case their foray into financial innovation fails? And while the liability standard is high–gross negligence–the government, when it wants to and has very high-net worth targets or high D & O insurance coverage, can be very persistent and impertinent. And by the way, when the banking institution fails, the receiver or conservator (i.e. the government) keeps all of the records. So trying arming a strong courtroom defense for your board with little or no access to data. Board governance of an innovative depository can turn out to be a personal nightmare.

Finally, if you want innovation in the payments system, you can and should achieve it outside of the mechanism that accumulates excess savings and allocates them to economically productive risk-taking.

Posted by AABender1 | Report as abusive

Central banks were created due to various single bank failures. Before central banking many institutions acted as banks and printed their own currency. A pharmacy in new york for instance produced US dollars. These thousands of banks across the US had currencies units (dollars) that traded at discounts or premiums to each other relative to the perceived safety of the underwriting bank.

Gold and silver backed currencies were thus considered “safe”. The initiation of central banking and a monopoly on currency note issuance to the Federal reserve central bank was created to mitigate risk. I am not advocating pro or con on the article, just providing historical context.

Posted by Nick_Gogerty | Report as abusive