Wednesday, 2 September 2009

On the Usefulness and Abuses of Bankers

Adair Turner has stimulated a debate on the social usefulness of banks and bankers. This is necessary, timely, and indeed urgent.

The robber-bankers have caused as-yet unmeasured damage to Western society and beyond, and have called in aid the world’s treasure to rescue them from themselves. Now, a mere three months into a period of mild optimism (which is no more than to say the stricken patient has enjoyed a quiet night) and facing modest regulatory changes, they would have us accept that it’s to be business as usual from now on. Not good enough.

Around these parts we do not hesitate to enter the substantial positives in the ledger. Banks and other financial institutions provide many services that are unequivocal social Goods: basic banking services and deposit-taking; liquidity, pricing and market-makin
g for the trade of assets; instruments and markets for insuring and hedging unwanted exposures; and of course credit and clearing. Although rarely remarked upon, the social benefit of the extraordinary global credit-card system (for example) is of great significance for retailers and personal freedoms alike.

Delivering these valuable services effectively and (fairly) efficiently en masse has necessarily entailed the development of an ultra-powerful financial infrastructure. Though we do not follow the excellent Alice of Bubble in her rather flippant damning of the whole edifice of derivatives, it is clear that the abuse of this mighty system for personal gain has been ridiculously easy, prevalent, and largely unpunished.

By abuse we do not mean speculation, which plays a vital role in human affairs, not least in its stimulation of liquidity, innovation and the Darwinian process in business.

Rather, we mean the activities of the one-way bet merchants – the knowledgeable and well-placed players who take risks without paying the appropriate dues for the use of the risk-capital that underpins their gambling, but who stand to profit hugely. Almost all the sub-prime scams, ponzi schemes and derivative pyramids can ultimately be expressed in these terms. This is effectively theft at the expense of ordinary punters, shareholders, pensioners, ultimately whole bodies of tax-payers who are drafted to bail out the failures

All this strongly resembles the behaviour of the 18th century European merchant-expansionists who advanced their ultra-aggressive businesses and private armies across the globe, pocketing the profits when the going was good, but calling on the mother-country for ships, troops and treasure when they became over-extended. A great deal for them, but an expensive proposition for their countrymen.

In Dark Continent, his fine survey of Europe in the 20th century, historian Mark Mazower wrote:

“The real victor in 1989 was not democracy but capitalism, and Europe as a whole now faces the task of establishing a workable relationship between the two.”

No small challenge, and the status quo is unsatisfactory.
2009 is the right time to attack this task with renewed purpose, starting with democracy demanding that – as with any properly-managed capital adequacy scheme - the banks pay for as much of society’s fall-back capital that they tacitly rely upon to underpin their risk-taking. Here at C@W, we continually oppose subsidies and free rides for windfarms and nuclear power plants and the like: the same principles apply to banks and their schemes.

And where they are risking their own and their shareholders’ capital, let their speculating be acknowledged explicitly, and sealed off
hermetically, from their non-speculative businesses and the common weal alike. As bankers are useful and/or self-sufficient, we should encourage them; and as they abuse society's capital, we should cut them off at the knees.



Guido Fawkes said...

When politicians decided that some banks were too big to fail we got into this hole.

In retrospect LTCM should have been allowed to go bust, bankers would have got their fingers burnt badly and might have remembered that risk can hurt. Or probably not.

Anonymous said...

Two factors are pivotal to the immediate future, this,

Debt levels

and this


The second is interesting.

The Chinese State is declaring these contracts illegal, unenforceable, from instigation.
The rest of the world may follow the Chinese lead.
The US Administration is now being closely watched.
Should they choose to make good the six banks in question, on the back of the taxpayer, the failure of the dollar, both from international movements, and the potential tsunami of increased debt on taxpayer shoulders, creating a deflationary spiral, will be imminent and drastic.

I note gold jumped yesterday

Anonymous said...

From Switzerland with no Love

The article by Wegelin Bank of Switzerland (in Scribd box) is an important subject, and an interesting read. (right hand-top box on scribd for full screen)

It is not only banks that are flexing their muscles.
The US Administration is showing quite alarming tendencies, in addition to increasing warmongering. I expect more from upcoming US International financial meeting this coming week.
The moves of dying States, historically repeating, over and over!

Houdini said...

I nearly always agree with you CU, but on this occasion I think you are giving bankers a bit of a raw deal, however much they deserve it.

This Government, yes another Labour bash and rightly so, revelled in the profits made by these bankers and the tax take and encouragement they led across the spectrum of business and even the public. This Government did, has and still are, encouraging unsustainable levels of debt and risk.

Give a kid a bag of sweets and tell them they shouldn't eat them all but can if they want, they will eat the lot, and the parent is to blame.

This Government created and encouraged the culture, and is further doing so, so they are at least as much to blame.

Bill said...

I agree with your sentiments, and acknowledge the aims would be hard to achieve. On balance I would seriously consider a plausible separation of deposit taking and lending from securities activity. The term "banker" has become far too ubiquitous. I am sure if the public more generally had a greater understanding of the differences between ordinary banking, investment banking and asset management they would be even more angry.

Bill Quango MP said...

Give a kid a bag of sweets and tell them they shouldn't eat them all but can if they want, they will eat the lot, and the parent is to blame.

I think the point here is the kids having been violently sick, are now demanding of the parents who are still in the process of Vaxing the carpet with vanish, another, bigger bag of sweets.

Anonymous said...

Weel merchant bankers has become rhyming slang, surely if they want big bonuses they should also have take their portion of the losses, ie make a loss and payment is reversed, also lock bonuses to be held for ten years or what ever length of time which might just concentrate minds, that would also apply to directors bonuses and no forward trading. It is no good just pussy footing about just waffle and nothing gets done.

Budgie said...

Predominantly, UK banks did not fail (those that did) because of sub prime or derivatives (American or otherwise), they failed because they were massively locked in to the UK property market.

And who fiddled the figures in the property market except Gordon Brown? He inspired people to commit to too much debt; he held the BoE rate to CPI, rather than RPI; he taxed pensions so that people came to regard their house as their pension; he expanded the money supply by 10-14 percent for years - most of this surplus being soaked up by property.

Without HBoS, Lloyds would probably have survived like Barclays. But again, who was instrumental in that deal? Everywhere it's gone wrong, there was Brown. The only oddball in all this was RBS whose arrogant boss was a mate of - you guessed it - Gordon Brown.

Nick Drew said...

GF ...probably not ...
indeed, memories are short. Enron went under for reasons not dissimilar, but everyone forgot

Anon x 2 interesting articles, esp China. Gold - looks technically like a breakout above $975 (interest declared: long gold)

Houdini - don't blame CU, this was moi; and yes, plenty of blame to be placed at Brown's door, it was clearly he (+ Blair) who set the ultra-lax regulatory tone

Bill & Anon3 - yup; & Bill Q - exactly

Budgie - yes, Brown again!

James Higham said...

Great article, Nick. How to curb the all out greed when the financial infrastructure, by definition, involves more efficient ways to accumulate and nothing wrong with this - but how to curb those who would wreck it?

You and I might have differing views on these "rogue bankers" and investment gurus. At ground level, they are just guys out for the buck but at the higher echelons, there is more than just naked capitalism - there is a monopolistic push which wants to see the end to free market economics and a small club like thing [as in Russia] which excludes the likes of you and CUS.

These are no more capitalists than Brown.

Those who can't see this third force will just say "rogue bankers" but those who can see it know the markets are going to manipulated yet again after the next upturn and there we'll be again in the next recession.

Obviously, my simplistic "drop bonds and issue only treasury notes, withdraw from the IMF and BIS, get rid of the CBs, return from FRB, is not going to be embraced by anyone so if marketeers are determined to keep going up and down in manipulated cycles, so be it.

Which brings us back to your original point about curbing the ones who wreck the system. Just how is that to be achieved?

Sebastian Weetabix said...

targeted assassination?

Jambo said...

John Kay has the nice example of overtaking on blind corners, overtaking on blind corners gets you a small advantage now but exposes you to a relatively rare but devastating event.

However in our economic system the rewards for overtaking on blind corners are given to those who do the driving, whilst the inevitable car crash is absorbed by the institution who hired them & those who lent it money (in the better cases) or the public at large (in the worse cases).

In either scenario the driver has no incentive not to overtake on blind corners, and let their bank or country take the damage.

Your option to fix it are:
1) Ban overtaking on blind corners.
2) Force those who do the driving to directly suffer the consequences.
3) Tell the car owner how what their car is being used for.

I favor option 3, as it's a solution that moves financial markets closer to the EMH.
If you're selling an interest baring product you must explain what activities are being done & what risks the punter is exposed to. (It's not like punters should invest in bank accounts / pensions / ETFs / Shares etc without actually knowing this information anyway!)

And yes, it would massively curtail the financial service industry and make it unprofitable to do lots of the fancy pants gambling they've been doing, thats the idea. If we're not prepared to have Glass-Steagall style limiting of which institutions can do the risky stuff & expose the public at large to it, the public should be informed as to what is being done with their cash.

ScotsToryB said...

I hope I am coming in at the end of the discussion as I do not have the necessary qualifications to comment but are there any of you who, like me, believe that sterling is being allowed to be devalued against other currencies?

Somehow this reminds me of Wilson's statement that the pound in your pocket is worth...

Surely I am not the only person to think of this?


Anonymous said...

Controlling banks, on leverage, etc is only half the problem.

The other problem is gov't ability to create gilts, and other vehicles, perhaps international in nature (IMF) and SDRs, pure fiat created expressly for that purpose, ie, to borrow, basically from the future. Historically, gov't borrowing and the resultant taxation levels has destroyed many nations.

Remove their ability to borrow, (maybe within tightly defined, screwed down limits), and you remove their ability (almost) to make war. And, a sensible balanced budget would create small government and get ride of the socialist disease. Gov't expenditure would be vividly displayed in income tax, excise duties, and sale taxes, and the population would be saved from the majority of the hidden tax of inflation. And the currency would be instantly reflective of the terms of trade, keeping the other buggers on their toes!

I note broon can find £11bn from somewhere to pass to the IMF, which will pass it through it's own multiplication machine, and, hey rabbits out of a hat....

Houdini said...

I think the point here is the kids having been violently sick, are now demanding of the parents who are still in the process of Vaxing the carpet with vanish, another, bigger bag of sweets....

Couldn't agree more Bill, but the even bigger point is that they will get it from this Government who are in hock to whoever will make their electoral chances look sweeter.

Banks only did what banks do and will continue to do (?) if allowed, and with the Government demanding more lending, are being encouraged to do.

Anon above is right too and it does come down to Government.

Anonymous said...

So, the reason for the levitation of bank share prices towards nose-bleed valuations, high frequency trading, corrupted accounting standards on asset valuations, mark to fantasy accounting, 90 days leniency on foreclosure to prevent balance sheet knee tremblers, is revealed.

The will to regulate and rein in banks is Melting like a snowball in hell

So what happens to share prices if the G20 grow some balls?

Sackerson said...

Yes, Nick, separate the gamblers from the bankers. And I say there's still an argument for criminal charges (duty of care towards shareholders, bondholders, depositors and the general public).

Nick Drew said...

Thanks, James. Depressingly, anon's link @ 7:36 pretty much sums up how things look at present. No-one ever looked to Brown to do the right thing.

Welcome, Jambo - yes transparency is a large part of the issue (and the FSA already has extensive powers under Basel 2 in this respect).

I'm with you Sackers - as you know !

Anon @ 4:29 - yup, there's a helluva lot in play. Which may be related to the £, STB, (though it's quite a bit higher than earlier in the year, isn't it ?)

tory boys never grow up said...
This comment has been removed by a blog administrator.
tory boys never grow up said...

Part of the problem is that the traditional bankers (who raised finance and provided loans and finance and provided financial products to help their customers manage financial risks and even saw those who took a small turn for providing liquidity to markets) and usually had a reasonable understanding of risk management were booted aside by the marketeers, traders and speculators, supplemented by a few rocket scientists who believed that they had found the mathematical key to managing market risk. To add insult to injury these charlatans usurped the good name of bankers - and even tried to add some further respectability by adding the investment prefix - or describing themselves as hedge fund managers when what they were doing was leveraging rather than hedging risks. As always these speculators distorted markets and led to markets which did price risk properly - yes governments can also distort markets and make them inefficient - the one frequently forgotten lesson of history is that speculators are quite capable of creating these distortions (and indeed boom and bust) without any government assistance.

As for causes of the current problems with the UK (there are similar trends elsewhere) perhaps we can look to the Greed is Good philosopy of the Thatcher years, Big Bang, the Building Societies Act 1986, the worship of deregulation and unregulated markets - and I wouldn't doubt that Labour Governments as well as the Tories bought into this as well, or were not as aware as they should have been. But if any Tories think the answer is to turn the clock back to 1979 then they really have learned nothing.

I suspect I disagree with most people here about the extent of regulation that is needed to make markets operate efficiently - but it is perhaps because that I believe in markets that I do think that they are worth regulating to make them price risk properly and work efficiently. However, perhaps those who want to minimise the extent of state regulation perhaps ought to play a little more attention to role self regulation has played in recent times - that whole framework of fund managers, accountants and lawyers has been pretty worthless and really does need a good shakeup. Conservatives might also want to look at the background of the current crowd around Cameron to see whether past form indicates if they are up to the task - personally I don't see many signs of that particular bunch of poachers becoming effective gamekeepers.

Nick Drew said...

agree with most of your last para, ToryBoys, and I never thought I'd find meself saying that

(while you're here, thanks for pointing us to Labour&Capital all those months ago!)