In older and simpler days, banks took in deposits from families and businesses, and lent the money out again, making a profit along the way; or they took clients’ funds and invested them in financial markets, in the hope of generating a return for customers.
But since wave after wave of deregulation in the 1980s and 1990s, the business of banking has become far more complicated. Today, as well as investing funds on behalf of their clients, many banks make hefty bets using their own money – a practice known as “proprietary trading”. Bank staff taking part in such activity are often referred to in City parlance as the “prop desk”.
Not only might the prop desk be betting on the direction of share prices, acting like an in-house hedge fund, it might also be gambling on property, complex derivatives, commodities ,or any traded asset.
The potential conflicts of interest involved have been brutally exposed by revelations of Goldman Sachs’s behaviour during the boom years. Its traders were bundling up loans into collateralised debt obligations (CDOs), the complex assets that became notorious for amplifying the sub-prime crisis, and selling them to Goldman clients. Yet at the same time, the bank was using its own money to short CDOs – in other words, to bet that their value would fall. It is these contradictions that Obama now wants to outlaw.