How Changes to the Financial Services Industry Eroded Trust

Financial Innovation, Derivatives and the UK and US Interest Rate Swap Scandals: Drawing New Boundaries for the Regulation of Financial Innovation

“…Second, as the new large financial conglomerates became the main providers of financial services, a new business model emerged, driven by the pursuit of short‐term profits through high‐risk activities, and fuelled by flawed market incentives (such as stock options). Banks could now rely on implicit government guarantees even in connection with risky activities which were previously the domain of investment banks (Jaffer, Morris, Sawbridge et al.,2014, p. 42). Unconstrained moral hazard thus contributed to erode trust in large financial institutions.…”

“…Unconstrained moral hazard thus contributed to erode trust in large financial institutions. Changes in culture also aggravated to this process, especially in so far as the traditional ‘relationship banking’ gave way to a sales‐driven attitude (Jaffer, Morris and Vines, 2014).…”

“…The mis‐selling scandal illustrated a different facet of the too‐big‐to‐fail problem, notably the increase in conflicts of interest within large banks that, pushed by perverse incentives, tied their loans to the sale of hedging products like IRSs. As explained in section , this was caused by the consolidation of financial institutions into large mega‐banks and by the consequential shift in their business models and sources of earnings (Jaffer, Morris, Sawbridge et al., 2014, p. 42).…”

“…Increased risk‐taking – and also the misallocation of risks created by complex derivatives – caused huge losses that have been borne chiefly by banks' customers. They were no longer seen as clients whose prosperity banks had to look after, but mere counterparts for banks' trading (Jeffer, Morris, Sawbridge et al., 2014, p. 51). This culture – specifically the institutionalised culture within investment banks that in turn has come to characterise financial markets as a whole – justifies any form of short‐term profit and self‐interest strategies for the interests of banks' shareholders and executives (Ho, , p. 184).…”

“…As discussed earlier, policy pressure from international standard‐setters led to the advancement of the interest of the financial industry over other social stakeholders (Westbrook, , p. 13). The influence of neoliberal orthodoxy on policy making led to believe that a lightly, market‐regulated financial system could work well, and that market‐players' greed and selfishness could still give rise to efficient outcomes (Jaffer, Morris and Vines, 2014). This hypothesis led to catastrophic results as evidenced in section .…”