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Traditional banking is characterized by the application of strict regulations, while modern banking is differentiated by the introduction of new laws that resulted in the deregulation of key aspects of the banking industry. The application of strict regulations in traditional banking structures and processes paved the way for tougher measures to monitor and manage the following areas: “entry and geographic expansion; deposit insurance; type of products or product activity; pricing restrictions; and capital regulation” (Kroszner & Strahan 2014, p.488).
After some time, policymakers deemed it prudent to deregulate banks to a certain extent in order to speed up key processes for the benefit of bankers, investors and ordinary depositors. In the present time, modern banking is characterized by deregulation and the use of sophisticated IT-based technologies. These two major features of modern banking made it possible for the establishment of cost-efficient banking processes, and at the same time, creating a great deal of instability as exemplified by the financial crisis of 2008.
Traditional banks were highly regulated in five different areas from geographic expansion to the amount of money that was expected to be on standby-reserves. There was only one reason that prompted policymakers to develop several restrictions, and this was to ensure the long-term stability of the country’s financial institutions (Fauver 2013). For example, traditional banks had cash reserves, and bankers were not allowed to use these funds. This rule was in place because central banks were hoping to accomplish two critical goals. First, the cash reserves served as a tool to control the amount of credit that can affect the national economy (Vives 2016). Second, these funds were on stand-by in order to make sure that banks were liquid enough to meet current and unexpected needs.
The strict regulation of financial institutions was also a means to discourage competition between different banks. Regulators were trying to build a solid foundation in order to guarantee the bankers’ success. However, the correct application of the aforementioned regulations ensured not only stable growth but conservative growth as well (Fauver 2013). It is not easy to appreciate the concept of conservative growth in the midst of a Western world defined by capitalism and the need to increase profits at every given opportunity. Thus, it did not come as a surprise when bankers, national leaders, and other stakeholders made the decision that banks must be deregulated to stimulate economic growth.
In the beginning, deregulation was meant to spur economic growth and improve the country’s financial services. For example, between the 1930s and the latter part of the 1970s, banks suffered from restrictions in the context of geographic expansion. Proponents of deregulation were able to prove that this type of limitation prevented a certain number of depositors from enjoying the privilege of having a local bank (Fauver 2013).
They also argued that restricting interest rates and preventing banks from competing with each other ultimately created long-term economic consequences. For the most part, they were correct. Most of the time, deregulation was a boon to the national economy by serving depositors looking for the best banks and for businessmen seeking for the best financial products available in the market.
Deregulation opened up greater opportunities for growth. However, the potential for unlimited growth also created an environment that pressured or tempted bankers to develop and deploy riskier business models. The fraudulent and ill-advised actions that ultimately created the financial crisis of 2008 were due in large part to the tremendous pressure to perform at the highest levels and the unbridled means to make a great deal of money (Berman 2016).
In a book discussing the emergence of a new banking system, the author noted the sudden increase in the cross-border business between international banks. He pointed out the sharp rise from $700 billion in the early 1980s to $20 trillion in 2008 (Taylor 2015). Technology also played a key role in the creation of a new banking model with international capabilities and global complexities.
There are three major technological innovations that radically altered the business operations of modern banks. First, the existence of automatic teller machines enabled people to easily move funds and use capital over the planet. Second, the availability of “consumer-oriented money market funds” and related products and services created alternatives to local banks (Kroszner & Strahan 2014). Finally, improvements in the cost-efficiencies of transportation and telecommunication technologies allowed depositors to use banks that are located in a different city or different state (Sharma 2016).
The rapid expansion of local and international financial institutions created a robust banking industry. At the same time, deregulation paved the way for the emergence of a complicated system that is fragile at its core. Due to cutting-edge telecommunication capabilities, it became easy to move funds all over the globe, and the same time, it is easier for depositors to pull out their money rendering banks insolvent in the blink of an eye.
Deregulation gave birth to modern banking. Regulators and policymakers gave approval in order to stimulate growth and improve the quality of the nation’s financial services. However, the combination of innovative technologies and the removal of restrictions created complicated cross-border transactions and the rapid movement of capital all over the planet. Deregulation allowed bankers to maximize profits. However, it also created one of the most significant financial meltdowns in human history.
Berman, K 2016, ‘What is a bank?: a series exploring the existential crisis facing banks in 2016’, Wall Street Journal. Web.
Fauver, R 2013, ‘Crisis, response, and innovation in America and abroad’, in C, Oldani, J, Kirton & P, Savona (eds), Global financial crisis: global impact and solutions, Ashgate Publishing, Burlington, VT, pp. 19-28.
Kroszner, R & Strahan, P 2014, Regulation and deregulation of the US banking industry: causes, consequences, and implications for the future. Web.
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Sharma, S 2016, ‘A detailed comparative study on e-banking vs traditional baking’, International Journal of Applied Research, vol. 2, no. 7, pp. 302-307.
Taylor, M 2015, ‘Global banks and financial intermediaries’, in G, Carpio, D, Arner, T, Beck, C, Calomiris, L, Neal & N, Veron (eds), Handbook of key global financial markets, institutions, and infrastructure, Elsevier, San Diego, CA, pp. 357-378.
Vives, X 2016, Competition and stability in banking: the role of regulation and competition policy, Princeton University Press, New Jersey, NJ.