The recent economic downturn has inspired a lot of anger at banks, especially around the problem of credit (loans) given by banks for the purchase of homes. There has been enough anger out there to fuel calls for a “state bank” in order to offer a local, publicly motivated financial institution to avert such a crisis in the future. Unfortunately the current proposal, HB 1320, doesn’t offer much in the way of how such an institution would function in the face of Washington State’s constitutional prohibition on the lending of public credit. The discussions of HB 1320 do have implications for Transit Oriented Development.
The mortgages at the heart of the crisis were often given to people with no money down, insufficient income to make payments, and then repackaged and sold off as securities for a profit by banks. When people started losing their jobs, those loans went bad, creating a crisis for financial institutions that had purchased large numbers of these mortgages. The decision was to “bail out” those banks.
It’s easy to to forget how banks work. Banks take deposits from people with cash and then loan out that money. Banks serve the critical function of aggregating capital, lending it out with some risk, and then paying depositors some interest. There is a great video by Sal Kahn on how fractional reserve banking works, a good refresher on the banking system.
So why not open a “state bank,” run by the state government for the benefit of the people of Washington? It’s a great idea, but it’s not clear it could really work or solve the problems the Occupiers have with banks. There are two gigantic problems, one is surmountable and the other is not.
No county, city, town or other municipal corporation shall hereafter give any money, or property, or loan its money, or credit to or in aid of any individual, association, company or corporation, except for the necessary support of the poor and infirm, or become directly or indirectly the owner of any stock in or bonds of any association, company or corporation.
But what about the State’s credit? Article VIII, Section 5 prohibits that.
The credit of the state shall not, in any manner be given or loaned to, or in aid of, any individual, association, company or corporation.
Are there any ways around these prohibitions? The advocates have made a rather strained argument that essentially says, “North Dakota does it, they have a similar prohibition (Article X, section 8), that means we can too!” and “if people deposit money in a state bank, that’s depositor money and it can be lent without lending the credit of the state itself.”
That brings me to the thing about a “state bank” that is insurmountable. Banks are banks, and whether the state, a non-profit entity, or mom and pop run them, they are always governed by the fractional reserve principle: banks make money by lending out money. And when anybody makes a loan, they are taking a risk that the person loaned money can’t or won’t pay it back.
It’s true that the profit motive can taint the lender’s actuarial sensibilities, skewing them toward riskier loans or toward tightening the terms of their loans. But even a non-profit lender has to make some money to run the bank itself. And what happens when the State Bank of Washington makes lots of student loans, the economy tanks, and those students can’t pay it back. We’re right back where we started, having to decide whether we tax payers or depositors want to “bail out” those students.
What does this have to do with Transit Oriented Development (TOD)? We advocates of TOD should be supporting hearings for HB 1320 even though it really doesn’t do anything other than study the idea of a “trust” into which state dollars would be poured. The legislation doesn’t outline clearly how the bank would operate or how it would overcome the prohibitions in the Constitution.
The reason for supporting it in principle has to do with much needed Constitutional reforms that would open up Article VIII to allow for more lending of public credit by state and local government to support public and private Transit Oriented Development. Along with Tax Increment Financing (TIF) and other tools I’ve described before, big changes in our Constitution in Washington could lead to more public and private development around light rail stations in the region. The lending of the states credit, for example, along with condemnation powers for land acquisition around stations could make land banking affordable and prevent hassles like the Roosevelt rezone battle.
Not surprisingly, the proponents of HB 1320 would be roundly opposed to such a use of public credit. But the debate and discussion about public finance is a welcome one, as long as we all remember that financing anything involves risk, and without risk there is no progress. Banking without risk is simply impossible even if it is a state bank loaning money to students or making loans to reduce the cost of building more privately constructed housing around transit.