Martin Taylor
At the crisis point of the credit crunch last autumn, policymakers faced three challenges. First, they needed to stop the panic. Secondly, they needed to recreate the conditions for economic growth. Finally, they had to take steps to ensure the disaster was not repeated.
The first of these tasks was eventually achieved, though it proved more difficult and costly than many had imagined. Policymakers were criticised both for being slow to respond to the scale of the problem and for giving too little attention to international co-ordination. But you cannot point both these fingers at once, so to speak, since the search for international co-ordination slows response times. On the whole, governments and central banks performed their daunting job pretty well. The proof of that is that the banking system, although challenged in its long-term funding and risk averse in its lending, is still functioning today. It was not certain last October that one would be able to write those words in mid-2009.
Overcoming the first challenge is a good start on the second challenge—getting the world economy going again—since the restoration of confidence is indispensable for growth. The paradox, though, is that the more rapidly confidence is restored the harder it is to address the third and, in the long run, most vital question: how do we stop it happening again?
The panic is now clearly behind us, and the worst of the inventory shake-out in manufactured goods has also taken place—two fundamental conditions for a cyclical recovery. We are also benefiting from a monetary stimulus of biblical proportions. This must and in due course will be withdrawn. The universal response of governments to the emergence of budget deficits on a scale that could never have been imagined has been procrastination. And overall, things will feel worse, probably much worse for much longer, before they feel better. This should concentrate minds on the “how do we stop it happening again?” question. Political will to tackle this is likely, after all, to fluctuate according to how bad “it” is felt to be. Read more »
MG Zimeta
To discuss this article visit First Drafts, Prospect’s blog
These are dark times to be a politician or a banker. Hedge fund managers, newly relegated to the social wilderness reserved for sex offenders and arms dealers, may or may not be pleased to now be joined by their MPs. The recent national anger at our political and financial elite has been unprecedented: but are we right in our rage? “Anybody can become angry,” warns Aristotle, “that is easy. But to be angry with the right person, and to the right degree, and at the right time, and for the right purpose – that is not in everybody’s power, that is not easy.” In the furore about the failed morals of our political and financial institutions, are we in danger of compromising our own moral standing, or missing a valuable opportunity to fix what went wrong?
The easiest response to wrongdoing is retribution. Several of our expense-fiddling MPs and senior failed bankers have been subject to humiliating public scrutiny of their finances and lifestyles. Such vengeance can feel good, but it plays to the lowest parts of our own character. And establishing guilt, unfortunately, does not always mean establishing remorse: “I pleaded guilty, a secular plea,” says JM Coetzee’s fallen academic David Lurie in his novel Disgrace. “That plea should suffice. Repentance is neither here nor there.” “I accept responsibility for that which I was responsible,” wrote Sir Fred Goodwin, former CEO of RBS defending his £16m pension after the treasury used £20bn to bail out the crippled bank. “[T]o voluntarily accept a reduction… is not warranted.”
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George Magnus
In mid-March the Bank of England unveiled a radical departure from conventional monetary policy. With interest rates at a record low of 0.5 per cent, it announced plans to buy up $75bn of government bonds in a process that became known as quantitative easing (QE). Two months later the bank expanded the programme further, this time to £125bn. The move surprised some in the City, and was widely seen as indicating scepticism over the much anticipated economic green shoots. But what is the real goal of the easing policy?
Conceptually, easing is designed to stop a deflationary spiral. A collapse in credit and asset prices lowers wealth, which leads to falls in consumption, which in turn lowers asset prices again. Ultimately prices and wages begin to fall. Easing works by expanding the money supply directly, encouraging banks to start lending, stabilising demand, and encouraging investors to stop hoarding cash.
That’s the theory. Is it working? We don’t yet know. The original easing announcement caused gilt-edged security yields to fall sharply, in anticipation of the bank buying up lots of government bonds. But they have recently bounced back, driven in part by the recent stock market rally.
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Jonathan Ford
We want new banks.
Just one US industrial company, General Electric, has been in the Dow Jones index from its inception in 1896 to the present day. All the others (who now remembers the Distilling and Cattle Feeding Company or American Cotton Oil?) have either perished or been absorbed into other organisations in a healthy process of renewal. By contrast, banks seem to last forever.
Financial institutions have, of course, amalgamated over the past century, but rarely has a new entrant muscled its way on to the scene. In Britain, Barclays has its roots in the 17th century; Lloyds was founded in 1765. HSBC in this country is a thinly disguised Midland Bank, another Victorian colossus, while Royal Bank of Scotland dates from the Hanoverian dynasty.
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Michael Prest
Discuss this article at First Drafts, Prospect’s blog; and read James Alexander’s companion piece on banking’s bonus culture here
We are fascinated by what other people earn. But in recent months natural snoopiness has turned into political outrage. Taxpayers in many countries have seen funds that their governments have been forced to push through the front doors of banks, to save them from self-inflicted collapse, slipping out of the back door in big bonuses.
President Obama has introduced stringent limits on bonuses for executives of companies receiving federal aid. Governments across Europe have also responded to the popular mood with restrictions on executive pay as a condition of bank bailouts. The British government is steering an uncertain course between urging pay restraint and leaving management to run the banks that are now at least partly owned by the state. It has also announced a review of pay and risk management, chaired by David Walker, a City grandee.
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James Alexander
Also in this issue: read Michael Prest’s companion essay “What is a banker worth?“
Bonus bashing is good politics. Is it also good economics? The argument against limiting bonuses was crisply put by John Thain, until recently head of Merrill Lynch. Thain defended his decision to authorise bonuses of almost $4bn despite his company having lost nearly eight times that amount with an appeal to a free market axiom. “If you don’t pay your best people,” said Thain, “you will destroy your franchise.” Put another way: if banks cannot retain and motivate talented staff, how can they keep capital flowing efficiently around the economy?
Whatever the moral shortcomings of Thain’s argument there are holes in his logic that any reformer should consider.First, the incentive function of large bonuses is to be doubted, at least at the margin. Barclays chairman Marcus Agius said in Davos that too many bankers are used to receiving incentives “for basically turning up.” He is correct. Second, attempts to reform financial pay have not so far challenged the principle that financial services are based on highly mobile human capital and that the rewards to that capital have to be exceptional.
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Julian Gough
As a child, I had an innocent dream, one common no doubt to many children: I wanted to work in a bank when I grew up. I spent the golden summer days of my Tipperary childhood imagining how I would join as a computer programmer and work my way up for several years until I was indispensable and trusted. Then I would embezzle the bank out of the largest sum my childish mind could conceive of: a million pounds! I would stay working for a couple of years, carefully erasing all traces of my fraud, and retire at 30, a rich man, having hollowed out the bank from the inside.
Imagine my shock when, a few years later, I discovered the existence of derivatives traders. Sitting at a computer, destroying a bank from the inside, and retiring at 30 having siphoned off all the bank’s wealth for yourself, was perfectly legal! All the romance went out of the prospect. And so I gave up my dream, and settled for being an underground popstar and sex god.
The news that Bernie Madoff has leaped into the Greatest Swindler of All Time chart at number one (imagine his glee: $50bn!), brings back my innocent youth in a Proustian rush. One reason embezzling appealed to me as a career was the fine example set a century and a half ago by my relative, John Sadleir. The greatest bank fraudster of his day, he pioneered many of the methods of fraud now known as “financial services.”
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Graham Turner
The second bailout for British banks was dead on arrival. The markets greeted the 19th January announcement with sharp falls in both bank shares and sterling. Investors fretted over the rapid deterioration in public finances. They should have worried more about the faulty logic underpinning the scheme.
The assumption that banks are not lending is wrong. They are, but only to other financial corporations, like leasing companies, hedge funds, pension funds, brokers and so on. These organisations have been unable to access the wholesale financial markets since the collapse of Lehman Brothers and the downward spiral in house prices. So they are borrowing from banks instead. Far from credit drying up, in the first 11 months of 2008 banks lent these groups £252.8bn.
The real trouble is that banks are still not lending to businesses or households. In the three months to November last year, lending to non-financial corporations fell by £2.4bn and to households by £5.6bn. Over the same period loans to financial corporations rose 42.7 per cent to £101.7bn. Meanwhile, normal businesses are being hit by a steeply rising cost of borrowing. In 2008 the average cost of borrowing on the corporate bond market peaked at nearly 29 per cent for riskier companies. The Bank of England (BoE) has too often ignored this critical barometer. It also doesn’t appear to understand that, at a time of uncertainty, issuing more “risk free” government bonds—in order to buy up toxic assets—will crowd out corporate borrowing.
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Jonathan Ford
The mouse that ate wall street
We know that the mice got at the financial system in the past few years–even if most of us still don’t understand how. Bernie Madoff is only shocking because he was the single most brazen mouse.
Madoff wasn’t one of the big financiers on Wall Street. Although he was at one point chairman of the Nasdaq stock exchange, he remained a relatively obscure figure, known best to initiates and financial middlemen (doubtless how he wanted it). Yet he sucked in $50bn—more than twice the amount of deposits taken by Northern Rock, a bank deemed too big to fail. He was able to do so mainly because the cats slumbered. The so-called professionals who took fees for managing our money failed to keep an eye out. And worse, the Securities and Exchange Commission (SEC), which oversaw Madoff’s activities, was fast asleep.
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David Gaffney
Nobody wants to die with money in the bank. The idea of unused credit facilities lying around makes us uneasy, desperate for the whiff of a freshly swiped card. Or is that just me? For ten years I worked as a debt counsellor in Birmingham and Manchester. Many of my clients were cheery souls who lived life to the full, charging the bill to their credit companies and believing something would turn up. Wallowing in this warm swamp of indebtedness seemed a life of endless childhood bliss and, although it wasn’t strictly in my job description, I soon found myself teaching people precisely how to sink into that swamp, how to stay there and how to enjoy it.
To maximise the thrill of life in the default zone, I made sure my clients knew their principal task was to spend their way outwards and upwards. Some were slow learners. A concert pianist who came to see me had only one problem debt—a £500 HP agreement on his performance tuxedo—a bit pathetic from a debt counsellor’s point of view. He had very little spare cash and the only way he could listen to music was through his answering machine. Because certain notes triggered the tape to rewind, he could only play symphonies in certain keys. With the money he saved by not buying a proper stereo he paid off a tiny debt to a poodle parlour. He was an amateur debtor and required much tuition. A proper debtor would have hired a string quartet to play him to sleep.
Middle-class people generally needed much more intensive coaching in the art than others. They could get there easily enough, but helping them stay there was more difficult. The key was to persuade their creditors there was no disposable income. To convince your bank that a nub of chewing gum wrapped in a bus ticket is a reasonable monthly instalment, you must make subtle and strategic use of your financial statement: a debtor’s sword and shield. The trick is to avoid obvious large items of expenditure; if my client’s peacocks were undergoing an expensive course of psychotherapy, I would suggest we hid this cost in “general housekeeping.”
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