For HBOS read Manchester United

The parallels between football and banking are striking: both have been under-regulated, loaded with

Extravagant salaries and lifestyles, decision-making driven by short-term gain rather than long-term success, weak regulation and managers who think they can risk everything because the business is too big too fail. We could be talking about the banking industry, but the description works equally well for football.

For HBOS read Manchester United; for Northern Rock read Crystal Palace; and for Lehman Brothers read Real Madrid, Portsmouth - now in administration - or any one of the host of small and medium-sized clubs that could have gone the same way.

The banking crisis triggered a re-evaluation of the merits of capitalism and detailed planning is now in train to construct a regulatory system so that never again will bankers bring the global trade system to the brink of total collapse. But it is unlikely that the "new regulation" will stop there - risk control is the new zeitgeist. Much the same may be about to happen in the football world.

Compared to banking, football is a trivial activity. Banking is the circulatory system of the body economic, the veins and arteries that carry the essential nutrients of growth and development. Without banks there is no credit; without credit there is no investment; without investment there is no production, no capacity to meet the needs of today or the aspirations of the future. Whether it's the school cake sale or a new electricity-generating plant, nothing gets done without using up resources first in the hope of getting something back later (preferably more than you started with). The banks are just the organisations established to vet potential projects (more power stations than cakes) and lend out resources that depositors don't need right now (at a price). It may not be God's work, but it is the future of our children. For example, without the banking industry there will be no possibility of building better flood defences or a low-carbon future.

Our children's future does not depend on football, but the outcome of football matches weighs more heavily in most people's lives than the closing prices of the FTSE. There is a general feeling among football fans (which now­adays means most of us) that we are entitled to have a say in how football is run. When Americans buy "our" clubs, or the national team sinks to another defeat, we feel involved. It is easy to forget, when pundits clamour for the government to "do something" about the lax management of the FA, that this organisation is not part of the state, but a private institution, established by footballers as a form of self-government. Yet, we feel like owners and expect those who do control the management of the game to act like trustees, not landlords.

At the moment there is concern that football might go into some kind of financial meltdown. Any number of clubs in the lower divisions are close to slipping into administration, nagging concerns persist about the debt exposure of giants such as Liverpool and Manchester United, and the extravagant spending of Real Madrid last summer (underwritten by banks) masks the real position of almost all Spanish clubs: on the verge of insolvency.

The banking crisis can be attributed to three factors: a failure of theory, a failure of management and a failure of morality. The theoretical failure was that models used to calculate the minimum level of prudential reserves that banks needed to cover the risks they were taking were unable to cope with a systemic crisis. On the management side, those who nominally ran the banks were not being equipped with the knowledge or training to understand how these new financial instruments worked, and so were apparently unaware of the scale of the risk their employees were running. Light-touch regulators also failed to grasp the extent of the risks and the potential crisis contained within the trading system. All this seems extremely surprising to an outsider, but then banking got very complicated very quickly. Banks looked for ways to increase their profits by evading controls, and it was easier to nod your head as if you understood, especially when profits were rising.

The detail is complex but the morality tale is less so. In the eyes of ordinary citizens the banking crisis is about greed. Bankers believed that greed was good, and their greed caused them to disregard the damage they did to others. Public anger is aimed not at the institutions themselves, but at the people who run them, the wages and bonuses they have been paid. Morality is fashionable again, a change that seems to catch the bankers unaware. Morality is always a comfort in a crisis: "My life has been ruined not because of anything I did, but because of bad people around me." But did banking attract bad people or were potentially good people turned bad by banking? If banking attracts the bad, then should we carry out moral examinations to prevent the advancement of the wicked? Does anyone know how to spot a wicked person before they have committed their wickedness?

The "good people turned bad by banking" theory is more manageable. In this view, bankers took excessive risks because they had contracts that offered large payouts if profits grew rapidly, and only limited penalties in the face of large losses. The largest loss you can face as an employee is losing your job, but if this risk were to be set against the potential to earn millions within the space of a few years many of us might be tempted.
The downside was limited at zero for the employee, but the downside for the banking system involved billions of dollars of losses, and the downside for the economy was a collapse in output and the loss of livelihood for millions of families. This problem is known as "moral hazard" - when decision-makers are not liable for the consequences of their actions they tend to take actions that suit their selfish interests. Banking is not alone in being afflicted by this problem (co-ordinating global action on climate change is another good example), but it is particularly susceptible because of systemic risk.

So is there a kind of employment contract that might make bankers into better people? To write an ideal contract, you have first to know something about human beings and their motivations. Bankers' contracts were based on the premise that what people want is more money, but there are reasons to wonder if this is quite right. Economists have always thought that what people want is happiness (using the word "utility" for the concept of happiness makes the issue sound unnecessarily technical), but this only raised the question of what it is that makes people happy. Many decades of large-scale world surveys have indicated a striking feature about our happiness: we seem to be happiest when we are at the top of the income scale, but on average we don't seem to get much happier over time even though incomes have been rising. In other words, while money might not buy you happiness, happier people tend to have more money than the rest of us. This finding, known as the Easterlin paradox, suggests that relative position rather than absolute standing is the key motivator of human action - whether in banking or any other aspect of human endeavour.

Now think again about the problem in football. Florentino Pérez, the recently re-elected president of Real Madrid, went out and spent more than £200m during the summer of 2009 on acquiring players such as Ronaldo and Kaká, with little prospect that these acquisitions would generate a financial return large enough to cover the debts incurred. Why was he willing to risk the financial stability of the club in this way? First, because its arch-rival Barcelona had just won the Champions League, and second because Real Madrid is far too important to be allowed to fail, and so Pérez will not be liable for the consequences of his decisions. Pérez is driven by status and by an incentive structure that rewards risk-taking. Nor is he alone in the football world. Most of the Spanish league clubs have debts they are unlikely to be able to repay without some financial restructuring, and the same is true anywhere you look in Europe.

In England there have been 50 or more cases of club insolvency since 1991, usually resulting in a restructuring that involves writing off debts and tax liabilities, often leaving the same management in place. It is not that they are not good at selling - income has risen sharply in the past 20 years. Ticket prices have increased tenfold. For the Premier League, the tide of television money has risen inexorably. And the clubs have learned from the Americans how to exploit their merchandising potential.

But as fast as the money comes in, it has been spent on players, in attempts to build a better team. This is not illogical, viewed by a club on its own - more expensive players tend to play better and win more titles. The problem is that collectively it cannot work, given that only one team can win the title each season. In their anxiety to be the one, clubs have extended themselves to the limit, and frequently just a little bit further. If there were no incentive to achieve the status of champion, this would not happen. As a result, the leagues now penalise teams that go into administration by hitting them where it hurts, docking points and so making it less likely that they will become the champion.

Much the same is true in banking. The bankers at the world No 2 bank want to do a deal that will raise them above No 1; No 3 is thinking about the same thing in relation to No 2; while No 10 is contemplating leaping over Nos 9 to 6 and getting into the top five. Was it the money or the status that drove the bankers?

Perhaps there is no distinction. In banking and football, competition is about competition to be the champion, which in banking usually means being the biggest. Is such competition necessarily damaging? It should be remembered that during all the financial disasters in football, attendance has continued to grow (despite ticket price increases) and the appeal of the Premier League is now greater than it has ever been.

Indeed, the Football League Championship (the old Second Division) has risen to become the fourth most popular league in Europe (after the English Premier League, Germany's Bundesliga and Spain's La Liga, ahead of Italy's Serie A), unimaginable in the 1980s and thanks largely to the English brand of football capitalism.

It is tempting to make the same point about British banking, which, together with financial services, has been one of the main drivers of UK growth over the past two decades. Between 1991 and 2008 the UK economy grew by 57 per cent. Since 1830 there has not been any other
17-year period when the economy grew as fast: we have just lived through the biggest boom in British economic history. Even though the economy has contracted by roughly 7 per cent over the past year, this still makes the entire period look very successful. Some people say they don't want to return to economic growth, but it was growth-generated tax income that enabled our government to increase spending hugely on public services - spending now at risk precisely because the economy is shrinking.

There are those who see the future as one of draconian regulation. In the football world France and Germany already claim to have regulatory schemes, whereby league officials vet the spending plans of the clubs at the beginning of the season, approve only those player purchases that are financially sound, and require all debts to be settled in cash at the end of the season. For good measure, they make sure that foreign owners cannot take over any of their clubs. As a result, their leagues fail to compete in international competition even though they produce plenty of good players.

Such restraints have not ended the compe­tition for status, which frequently requires the clubs to conceal their real financial position from the regulators. Allegations of corruption are common. In several cases clubs have clearly broken the rules and there is little evidence that French or German fans benefit from these regulations. A German team has not reached the semi-finals of the Champions League since 2002, a disaster for the largest football nation in Europe. Meanwhile, although many clubs have gone into administration, all of them have survived in some form. In 1923 there were 88 clubs in the Football League and today 85 of them still exist, with 75 still in the top four divisions. Despite frequent financial meltdowns, football clubs are remarkably stable. Owners come and go but supporter communities endure.

In the case of England there is one reform that would help. The abolition of the football "supercreditor" rule would force the leagues to reconsider their own rules. Uniquely in the business world, football creditors (clubs owed money for transfer fees or players owed wages) rank above even the taxman in an insolvency. The league authorities claim this rule is necessary to prevent a systemic crisis, whereby the failure of one club causes others to fail, but in reality it just amplifies the moral hazard problem.

If it were abolished, as the Inland Revenue has long demanded and the All Party Parliamentary Football Group recommended to the Commons in 2004, the leagues would have a strong incentive to impose tighter regulations of their own. It would also prevent the obscene consequence that a player on £1m a year gets payment in full while the St John Ambulance does not get paid the £5,000 expenses incurred to provide first aid at football grounds.

Competition for status is unlikely to come to an end because of any regulation, but it might be diverted into different channels. In the banking sector, it is reasonable enough to say that light-touch regulation did not work; this is not the same as saying that a heavier-handed approach will. Innovative ways to make money will move offshore if they are not permitted at home.

Given the greater significance of systemic risk in banking compared to football, leaving the sector to its own devices is not an option. But legislators and regulators need to think carefully about how new rules will affect the competition for status. We need banks and bankers, and we need legitimate channels through which they can succeed, and their success can serve all our interests.

Tighter controls in football would divert competition for status into competition to influence the regulator and to obtain favours, exactly the sort of problems that lay behind the Calciopoli scandal in Italy. We want owners of teams in football to compete for status in football, because that drives the quest for better teams and more success.

As for finances, we are much better placed to manage the consequences of failure in football than we are in banking.

Stefan Szymanski is professor of economics at Cass Business School. His latest book, "Why England Lose" (written with Simon Kuper), is published by HarperSport (£15.99)

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