The modern British High Street being what it is, most of you probably do a substantial amount of your shopping at chain stores. Food, clothing, various accessories… If we’re not purchasing it online, we probably do so at a branch of some major if not necessarily nationwide retailer.

This wasn’t always the case.

Older readers will be able to recall a time when chain stores were, in fact, the exceptions that proved the rule: that the UK was not only a nation of shopkeepers, but a nation of independent shopkeepers.

And when I was young, I recall that, in a good number of independent shops, there would be a sign in the window, next to the entrance, which read:

You broke it? You bought it!

The warning was plain. Please enter the shop. But when handling the merchandise, some of which might be fragile, take care. Think twice if you’re bringing young children into the shop with you. Any damage, and the shop owner would expect payment.

By contrast, chain stores tended not to advertise such concern. Nowadays, it seems entirely normal for most shops to just accept a certain amount of in-store damage as an ordinary, ongoing cost of doing business.

As I recall, the last time I dropped a jar of something or other at a local market, a staff member working nearby, stocking shelves, actually apologised for my mistake, explaining that perhaps the jars had been stocked too closely to one another, or too close to the edge, or something like that.

The idea that I would pay for the damaged item never entered the staff member’s mind, although it did enter mine. After all, it was entirely my fault.

What a difference a half-century makes

Perhaps I’m just old fashioned. I naturally assume personal responsibility for things under my control, such as how I go about removing a glass jar from a shelf.

Now why is it, do you think, that there has been such a noticeable cultural shift regarding in-store damage? And does it have anything to do with the growth of the chains over independent shopkeepers?

It does, and therein lies the answer: chains have certain advantages over independent shops. In various ways, there are economies of scale. And one such economy is that of insurance.

A large chain can negotiate more easily for low-cost insurance against in-store damage for all their shops as part of a group policy, than an independent retailer can for one small shop.

The impact on margins for the independent retailer is too great. They can’t afford the insurance, so they do what they can to mitigate damage. Or at least they used to. The chains have changed retail culture.

For that matter, so have online retailers, who don’t even need to bother with in-store damage insurance. No stores, no customers, no breakage, except perhaps by the employees themselves. But they’re trained staff who presumably know how to handle the goods in their custody with care as they move them about.

Another advantage the chains have over independent retailers has to do with financing.

Let’s say a chain wishes to expand and grow by opening new shops in new locations. The chain can borrow against their existing assets to fund the expansion. A chain of already meaningful size, with a somewhat mature, steady business spread about, is likely to be seen as a lesser credit risk than an independent retailer with one shop, in one town.

The chains can thus borrow more cheaply. This also applies to cafes and restaurants. Some chains are even publicly listed and, if desired, can rely on equity finance for expansion and sales growth. Hence the general transformation of the British High Street has been, to some extent, a financial phenomenon, not merely an operational one.

It remains to say something of that other traditional presence on the High Street: the bank.

High Street banks, too, benefit from economies of scale. Only more so.

Much more so.

Whether they choose to highlight this or no, High Street banks are perceived as safer. They can finance themselves at the lowest possible rate.

Deposits are largely guaranteed by the government anyway, so they needn’t pay their depositors interest above what they themselves pay for low-cost financing via the central bank. Their depositor base also tends to be relatively stable.

Banking then, and now

Once upon a time, the High Street banks faced some competition in the form of the building societies. In some cases these were considered as safe as the big banks. Often with a regional focus, building societies would compete with one another and with the banks, sometimes offering higher interest on deposits or lower rates on loans.

But as time has marched forward, one by one the smaller building societies have merged with one another or have been snapped up by High Street banks.

The last time that there was a wave of such consolidation was in 2009, in the wake of the global financial crisis.

There have been additional waves of consolidation through the years, more often than not corresponding to periods of crisis.

Now ask yourself: why is that?

As with the relative financial advantage of the big chains over small, independent retailers, so this is also true of the banks. The larger ones, seen as “too big to fail”, are able to take advantage of crises because they have a lower effective cost of capital than smaller institutions seen at greater risk.

By way of example, in 2008 there was a run on Northern Rock. Customers waited in line to get their money out. Once they did, they generally didn’t put it into another relatively small, regional-focused lender. Rather, they were more likely to go to a High Street institution.

Just recently, in the US we have seen widespread depositor flight from relatively smaller to larger financial institutions. The former are seen as more risky. Several at risk of failure have been taken over by regulators. Here in the UK, HSBC has taken over Silicon Valley Bank’s business.

The beneficiaries of all this are the larger institutions who have built depositor “market share” as a result. But while the High Street banks may benefit, does society as a whole?

No. Not only does consolidation result in less competition; it also increases the moral hazard of the system, by encouraging risky lending practices.

If big banks know that they have access to central bank emergency liquidity, like the great Cutty Sark of yore, they are going to risk sailing too close to the wind.

If the Bank of England is going to step in when pension funds get into a twist, providing a backstop, then pension funds might take excessive risk too.

Moral hazard; financial rot

The costs associated with moral hazard may be unseen, but they are real.

If the financial system we have today is replete with risk, whether seen or unseen, and central bankers have indirectly underwritten these risks via various emergency lending facilities, zero or outright negative rates and quantitative easing through a wide variety of asset purchasing programmes, then central bankers own it.

If pension funds, struggling to meet return targets amid zero or outright negative interest rates, leverage up their portfolios to enhance returns, only to find that, when rates rise again, they’re borderline insolvent and in need of an emergency bailout, then central bankers own that, too.

They broke it; they bought it.

I don’t know precisely where the next few bombs hidden in the financial sector lie. I do know they exist. Where there is moral hazard, they always do.

Regulators will say otherwise. It’s their job. They might even believe it. But don’t you be fooled.

Beware CBDCs

As was recently demonstrated by the near-simultaneous failures of several US regional lending institutions, including Silicon Valley Bank, banks are still subject to a possible run on deposits if savers sense they are at risk of failure.

One indication that the Bank of England is aware of the above risks and preparing for the next crisis is its reportedly “urgent review” of the UK’s Financial Services Compensation Scheme. The Financial Times reported this past Sunday that the Bank is concerned that the existing scheme is insufficiently funded and would fall short of what would be required to protect depositors if banks fail. Hence the Bank is discussing a “major overhaul”.

Another indication is the Bank’s growing interest in central bank digital currencies (CBDCs).

As it stands today, depositors can move their deposits from banks perceived as risky to those perceived as relatively less so. But if they perceive the entire system as risky, they can even go the additional step and withdraw physical cash.

CBDCs would eliminate that latter option. Once introduced, a purely digital currency cannot be physically withdrawn. No matter if central banks cut interest rates to below zero, even dramatically so, in an effort to get savers to spend more. The digital currency must remain in the banking system.

It may circulate more as households and businesses seek to pass the depreciating “hot potato” around, but there is no other option. A bank run on the system as a whole becomes impossible.

Thus CBDCs, by implication, would also enable central banks to impose outright negative interest rates on savers. That’s wealth confiscation, pure and simple, although they would probably call it something else.

If you would like to learn more about CBDCs and the potential dangers they pose to your wealth, I suggest you download our new, complimentary report on the topic here.

Until next time,

John Butler
Investment Director, Fortune & Freedom