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Big Banks Must Change Business Models to Survive


The first quarter earnings season is over for the big banks and the basic conclusion that can be drawn from their performance is that they may need to change their business models.

The basic business model of the big banks leading up to the Great Recession was one built during the fifty-year period beginning in the early 1960s. This model was constructed upon the assumption that the U.S. government would continue to underwrite an expanding economy indefinitely. The basic policy prescription was one of continuing government budget deficits and monetary policy that would underwrite the credit inflation created by the government budget deficits.

We saw that the credit inflation created produced a financial system that assumed an increasing amount of risk; remember the "Greenspan put" that protected against a stock market decline? It also resulted in financial institutions taking on more financial leverage. And, it saw an industry that produced a steady stream of financial innovations.

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In pursuing these ends, the financial industry substantially expanded its share of the economic activity of the country and employed a greater proportion of the workforce.

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The big banks excelled in all three of the pursuits, especially emphasizing riskier strategies like...