I was a schoolboy in Edinburgh in the 1960s. The head office of the Bank of Scotland was an imposing building on the Mound, the street which leads up from Princes Street to Edinburgh Castle and the Royal Mile. The Royal Bank of Scotland occupied Dundas House, the finest property in the city’s Georgian New Town. 

Banking was then a career for my contemporaries who did not quite make the grades required for entrance to a good university. If they joined ‘the Bank’ or ‘the Royal Bank’, they might with appropriate diligence become branch managers after twenty years or so. The bank manager was a community figure who would base his  – there were no female managers – lending decisions as much on his local knowledge and the character of the borrower as on figures. He expected to spend his career in the bank and retire with a generous pension to spend more time on the golf links where he had schmoozed his clients.  It never crossed his mind, or the minds of his customers, that the institution he had joined would not continue forever, in broadly its existing form.

By the time ‘The Bank’ and ‘The Royal Bank’ failed in 2008, the financial world had changed beyond recognition. The causes of this transformation included globalisation, deregulation, technological and product innovation, new ideologies and a changed political climate, as well as shifts in social and cultural norms. These factors were not independent; each was bound up with the other.

Larry Summers (who experienced the transformation variously as academic, politician, university administrator and would-be central banker) described it thus: ‘In the last 30 years the field of investment banking had been transformed from a field that was dominated by people who were good at meeting clients at the 19^th hole, to people who were good at solving very difficult mathematical problems that were involved in pricing derivative securities’. Summers (whose skills are better directed to the latter task than the  former) reported this shift with evident approval. 

      Yet these cleverer people managed things much less well than had their less intellectually distinguished predecessors.  Although cleverer, they were rarely as clever as they thought, or sufficiently clever to handle the complexities of the environment they had created.  

The growth in the size of the financial sector, the explosion of remuneration in it, and the changes in the nature of financial activity, were not to any large degree driven by changes in the needs of the non-commercial economy for financial services. These needs–the operation of the payments utility, the management of personal wealth across the lifetime and between generations, the allocation of capital between different forms of productive investment, and the pooling of risks – have changed very little. The growth of wholesale financial markets has principally resulted from  a massive increase in secondary market trading of existing assets and the focus of innovation has been  the management (or mismanagement) of risks created within the financial system itself. In the self-referential world of modern finance, the primary activity of financial institutions is trade with other financial institutions.

There may be less need today for the networker, the individual who knows whom rather than what; technology helps make connections, although it cannot displace personal relationships.  But the primary requirements for efficient capital allocation are the knowledge and experience to assess the quality of the underlying assets and the capacities of those who manage them. Yet the ability most valued in the finance sector in the first decade of the twenty-first century was keen appreciation of asset markets themselves. The exercise of these skills by people with an exaggerated idea of their relevance and their own competence in them plunged the global economy into the worst financial crisis since the Great Depression.

John Kay’s new book Other People’s Money is published tomorrow by Profile Books