2022 Nobel Prize winners for Economics: Why banks exist

The banks, in their present shape and size, are one of the most critical foundations of the modern world. Though they have existed for aeons, our understanding of their hows and whys is of the recent vintage. It was the winners of this year’s Nobel Prize in Economics who helped us build a more concrete framework to understand the reasons behind the existence of banks. The 2022 Nobel Prize to Professors Ben S. Bernanke, Douglas W. Diamond, and Philips H. Dybvig in the field of Economics was long overdue. 

If Ben Bernanke paved the way for the ongoing creative destruction of the neoliberal inequality-incubating economic system, the other two provided “priceless” insights into the working of modern economies. It was in 2003, when I was working as an intern at the Federal Reserve Bank of Dallas, that I heard Professor Bernanke would visit us. It was to oversee the conference that was going to be held to commemorate one of the sharpest economic minds in the last 100 years, Nobel Laureate Milton Friedman. Prof. Bernanke came on the research floor like a celebrity and left; the only thing I remember was the moon that had appeared on his head, like the one in the locks of Shiva. 

When the financial crises hit the US economy in 2008, I was working as a real estate finance consultant in Dallas, and the counterintuitive operation of throwing gas on the fire to quench its thirst began. I watched the US economy careening from one edge to another ever since with rising inequality, the increasingly oppressive US healthcare system, and unimaginable rise of China, and an uncontrollable polity, all happening under the eagle-like eyes of Prof. Bernanke. One might assume that history will be kind to the likes of Prof. Bernanke after his Nobel, but I have my doubts.

While Professor Bernanke helped us build a novel perspective ground in our understanding of the way bank failure propagated a financial crisis, and he was at the helm of preventing the crises from the Great Recession turn catastrophic. The crises did turn catastrophic, but not in the way many could imagine and see. 

I learned about the beautiful rationale for the existence of modern banks from none other than Professor Neil Wallace at Penn State; it was during his course on the modern monetary theory that he explained the rationale. In Prof. Wallace’s course, I learnt about Diamond-Dybvig transformational model that changed how I looked at Economics. 

And ever since those days, the critical reason for the existence of banks turned out to be one of my favourite questions to excite younger minds about the beauty of economics and bring down lesser mortals from their I-know-it-all poles. 

Most give obvious answers that banks are there to lend or take deposits. No one in my more than twenty years of asking this question has ever told me three of the most beautiful foundational ideas behind the existence and the pervasiveness of modern banks. Those are that all depositors would not come rushing to take their deposits away en masse. The second is that the banks do the risky job of maturity transformation—they turn short-term deposits into long-term lending for housing, vehicles, and infrastructural development, and the third is of creation of money because of the fractional reserve requirement. All three together made modern banking pervasive and a critical feature of human life. 

It was the insights from the work of the likes of Diamond Dybvig that India could take the momentous steps of making it easier for millions to open a bank account. Though I am not sure about Prof. Bernanke, I am certainly happy that Professors Diamond and Dybvig won the prize long overdue to them for changing the way we look at the world!