Humankind, according to Thaler & Sunstein (2008) in their critically acclaimed book Nudge, is not logically consistent, nor able to make decisions that are necessarily for its own good.
 Bankers, it would seem, do not escape this generalization.
Looking back it seems almost incredible that banks globally turned a blind eye to the many warnings of an overheated credit market in the period leading up to and culminating in the buyout of Bear Stearns in March 2008.
 In an all out effort to take advantage of low interest rate markets and an apparently insatiable demand for credit, new product innovations abounded.
 This was an all out race to gain marketshare.
 Unfortunately the competition were following the same strategy.
 The outcome was typically a zero sums game, in respect of marketshare, but not in terms of business sustainability.
 For many banks, this was what Porter referred to as a "race to the bottom" (2002).
  The evils of procyclicality   Procyclicality refers to the fact that economic cycles - the ups and downs - have been amplified and aggravated by the financial system.
 As capital has come into increasingly short supply and liquidity has dried up, banks have upped lending criteria.
 For some banks this has been tantamount to a short term cessation of their lending operations.
Reigning in lending is palliative at best however.
 It certainly addresses short term funding challenges which may threaten bank liquidity, but it does not address past credit decisions - what has already been booked.
 In addition, it foretells another headache further down the track, namely reduced revenues precipitated by gaps within the lending portfolio, made all the worst by increasing or even static levels of bad debt.
  For these reasons, we strongly advocate building core lending competencies which enable banks to lend through the economic cycle, whether up or down.
 There is the adage that banks write their worst business in the best of times.
 With improved core lending competencies banks can exploit borrowing needs irrespective of the state of the economy, so long as funding is available.
  Core lending competencies   Long term business sustainability needs to be promoted from the very top.
 From our experience, many retail banks, still struggle with the basics of the profit equation particularly where it comes to lending.
 More borrowers do not necessarily translate into increased profits.
 Therefore to be chasing market share at the expense of quality and hence profit, is to have completely the wrong performance agenda.
For most banks, this means developing in-house profitability analytic capability, analysts with the appropriate tools and systems at their disposal who can lead credit strategy.
 Where this differs from the approaches of many lending operations is both in the focus of this team - constantly seeking avenues to optimize profit - and the way in which this capability leads the lending strategies, and the decisions made at all points within the lending cycle.
  Although many banks within the Middle East have made the shift to empirical, scorecard-based decisions in granting credit, most scorecard cut-offs remain volume and good/bad odds-based.
 (Whereas the former approach aims to optimize the throughput of applications largely irrespective of the quality of the loans, the latter optimises the business' appetite for accepting loans with a probability of performing, relative to those which may default).
 The next step is to use the past performance of the book to develop profitability-based cut-offs.
 In so doing banks will need to be able to offer real time pricing and product that is tailored to the risk profile of the applicant, orrisk-based pricing.
 Risk-based pricing transforms thinking from application decision as simply a yes/no decision to a more complex question of yes, but at what price and under what terms that will satisfy our ROE requirements.
  Lenders who have applied risk-based pricing through the current cycle will be hard pressed to argue that their models alone assisted them to ride the storm.
 Mostly the underlying forecasting assumptions were completely shot out of the water, thus rendering some lending segments unprofitable.
 The better performing lenders therefore would have adopted more circumspect forecasts, perhaps integrating their risk-based pricing models with sophisticated macro-economic forecasting models.
 This remains one of the key intellectual challenges for lenders, namely, how to integrate the macro with the micro - what is happening within the business.
  Another key capability for weathering the travails of long term lending is champion / challenger testing.
 Sustained champion / challenger testing discipline means having in place systems and technology that promote ongoing changes and experimentation at all points within the credit life cycle without introducing undue operational risk.
 Effectively all changes - unless they are driven by policy directive - are empirically tested for the anticipated benefit, or impact, on a small segment of the book over an appropriate length of time before being rolled out.
  In markets less developed than those in the Middle East, extraordinary - almost obsessive - attention is paid to the application process and getting the upfront decision right.
 An unintended consequence is that collections are overlooked.
 For this reason and because collections are typically neglected in times of economic prosperity, banks need to build world-class collections capability that can appropriately deal with defaulted accounts.
 Nor is this simply a case of a team at head office with a dialler who are focused on reducing arrears.
 It should include payment projection scorecards, for example, in order to priorities collections activities to clients with a greater probability of rectifying their positions and determining at what point it is not profitable to pursue clients internally, matched with detailed productivity and incentivisation plans for collections staff.
  A fifth core lending competencythat needs sustained development ismanagementinformation.
 As a window to the business, accurate, timeous and meaningful management information is perhaps one of the most critical tools to managing a credit portfolio.
 Whereas many businesses may see this as simply a report, a competency-based view recognizes that management information requires skilled resources, datawarehousing, systems architecture, clear processes and data hierarchies, to mention but a few.
 As basic as it may seem, one of the first questions for us when engaging with a lending business, is whether or not reporting is being run off live, production data - in other words, the mainframe.
 This is a sure fire path to data instability and broader business confusion.
 Lenders which are committed to management information integrity relentlessly pursue a single version of the truth by setting up clear mandates for who 'owns' the data and by establishing the processes for batching mainframe data so that it can be manipulated without impacting core data.
  Lending through the cycle   It is sometimes difficult to see opportunity in a downturn, but there has never been a better time to focus less utilized resources on implementing the 5 core lending competencies (profitability analytic capability, risk-based pricing, champion / challenger testing, world-class collections capability, and improving management information).
Some seasoned credit professionals may feel underwhelmed by this shopping list of apparently must-have competencies.
 What is new? Indeed, core lending competencies are applicable in the good times and the bad.
 Their relevance however, has only come to the fore again because of market circumstances.
 While the competencies do not negate procyclicality, they certainly do create the means and tools to carry on lending through the credit cycle.