Back in the 1500s, a financial agent of Queen Elizabeth I named Thomas Gresham observed that that “bad money drives out good.” That is, if two kinds of money are circulating at the same legal value, people will spend the lower-quality money and save the higher. The latter as a result ceases to circulate. This became known as Gresham’s law.
More recently, in our book The Money Bubble, James Turk and I extended this concept to bankers, observing that in times of very easy money, bad bankers drive out good:
Pretend for a moment that you’re an honest banker; think Jimmy Stewart in It’s a Wonderful Life. The government is creating lots of new dollars and making them available to you, so you have plenty of capital with which to make loans. But you’ve already given loans to pretty much every creditworthy customer you can find.
Because you’re reluctant to lend to people who probably can’t pay back a loan, your impulse is to slow down, scale back lending and wait until the economy starts generating more creditworthy borrowers.
But that means giving up the fees generated by new loans which less scrupulous bankers are more than willing to write. Other banks become more profitable than yours, and your board of directors begins to question your competence. The make it clear that if your results don’t improve they will 1) replace you with a more aggressive (though they use the word “innovative”) executive from a more profitable bank or 2) sell your bank to one its fast-growing competitors.
Our good banker then has to decide whether to abandon his career or start behaving in ways that he finds unwise and/or unethical.
This brings us to Wells Fargo, which just agreed to pay a $1 billion fine for past financial crimes.
Here’s how it happened, from a 2017 Vanity Fair article: