Banking is one of the simplest businesses I have come across in my life. You take money at a lower interest rate and lend it at a higher interest rate. That’s it. The more money you garner, the more rollovers you do, the more money you earn. All the complications in the business comes because of two factors. One is man and the other is man’s love for money. If all men were honest and if money were merely a medium of exchange (and not an indicator of prosperity), as it were originally meant to be, we would not need to employ all the IT, systems, techniques, credit ratings, recovery agents, etc. in the business of finance. The world of finance has been further complicated by numerous product innovations that laymen don’t understand.
In effect, banking has become a tough choice for the common man and its one that he can’t escape from. At regular intervals, banks go bust and the Government ends up paying for these funny situations that giant banking corporation end up in to. We have seldom heard of a small bank going bust. Of course, we have heard them of running off with public money but they don’t often go bankrupt. On wondering why giants fall and small guys thrive, we get to learn a lot.
Very recently, I happened to read about Raiffeisen Gammesfeld eG Cooperative Bank in Southern Germany that is run by just one member of staff, Mr Peter Breiter. This added more strength to my thoughts on a Profit Sharing Community Bank Model (PSCB) that I have been working on from many years.
A PSCB entity runs a business focused on customers in a particular region or belonging to a particular community or have something in common, something that binds all customers together. Say, for example, all artists of New York, all peasants of Hubei, all residents of Dharavi, all Mexicans in UK, etc. The interested people, called members here after, open savings account with the bank. Members nominate a couple or more members to look after the affairs of the bank. The funds saved in the bank are used, primarily, to loan businesses run by members. The funds could also be loaned for various other capital expenditures like home construction, purchase of vehicles or consumer goods, certain other expenses relating to education, marriage and other aspects of life, etc. Thus, the basic business model is similar to any cooperative bank.
A PSCB does not offer any interest on the depositors’ funds. In other words, depositors lend their monies to the PSCB at 0%. However, this will be compensated by a profit sharing model the PSCB will employ. The profit sharing will work in line with the dividend distribution model. Dividends will be distributed to all accounts at the end of the year in line with the average balances maintained in the account.
The Cooperative Bank Model
- Anyone can become a customer of the bank by opening a bank account.
- Anyone (in some cases, eligibility clauses are mentioned) can become a member of the bank by subscribing to the shares of the bank.
- Account holders are given fixed interest as per as per the interest rate charts.
- Dividends are distributed to the members, or shareholders, from the profits earned.
The PSCB Model
- The meaning of an account holder (customer) and member (shareholder) are converged.
- One becomes a member by virtue of holding an account with the bank.
- No interest is paid on the accounts/deposits.
- Profits are distributed among members in the ratio of the annual average balances held in the account.
The big question here is, when the earning is not guaranteed (in other words, earnings is not a fixed number), why would anyone be interested to take this risk?
- PSCBs operate as a community and thus, there would definitely be members who are in need of funds. When the cost of funds is zero, PSCBs can lend to these members at a rate far better than what the market can offer.
- Communities are closely knit and therefor, the risk of default is minimal. Members would definitely want to be known for good things in their community. They would consider paying off their loans before indulging in other expenses. Of course, there are risks of fraud.
- The decisions of lending are taken by the nominated members, there is a fair chance that the borrowers have a good public profile and have enough repayment capacities.
- The PSCB will invest all the idle funds in to liquid mutual funds or deposits to earn revenues. The PSCB can also bargain for a higher interest rate considering fund volumes.
- In other words, PSCBs potentially offer returns higher than what a savings account can offer, but there are risks associated.
The focus of the PSCBs is more on the social front. It tries to pool in funds from one set of people to help people in the same set. A strong sense of belonging gets rated at rates higher than what savings accounts can offer. There is value transaction happening in the process in lieu of price transactions. The value transaction makes a PSCB a sustainable business. Of course, undoubtedly, prudent fund management can easily help earn better returns than a checking account. PSCBs make banking simple, so simple that if perfectly executed, you do not need a full time employee for the bank. The whole business can be transacted on volunteerism culture, the underlying assumption being that men and money behave as they are supposed to, in good faith.