The next financial crisis can’t come fast enough.
The political tide is backing off the banks. Few politicians in Europe or the US are willing to support moves for more radical reform. They just want to get the banks lending again. In practice, that means pressing banks to accept the risk of big bad debts down the road…and so set the stage for the next big bust-up. Regulators know their remedies are not going to work, and will saddle banks with enormous costs. How crazy can you get?
Many officials around the world understand the need for stronger action. It should involve a cap on bank size, by balance sheet totals; incentives to ensure diversity of business models, legal forms and ownership structures; a simple leverage ratio; and macro-prudential oversight. Such a structure, designed to end too-big-to-fail, would gain credibility when it managed failure of a small entity, and then a medium-sized one. The essence of such a resolution process is simple: depositors are plucked out of the failing entity and put into a sound one; the rest of the failing entity is then dismantled, with losses falling on shareholders and creditors. Only such reforms can restore market discipline in the system.
As argued in “The Money Trap”, the condition is that the big banks are broken up. When they are too big, it is impossible to take all the depositors out and plunk them down in another institution. Yet banks have persuaded governments that breaking them up will threaten their ability to lend more – the reverse of the truth.
Efforts to instil market discipline and end too-big-to-fail simply by building systems to “resolve” banks are not credible. The only way to make a large institution “ready for failure” is in practice to re-design the entire financial system.
Flunking that, the policy-making is focussed on “bailing-in” creditors. But these quickly become very difficult and expensive, and have big weaknesses.
Who is going to hold these bail-inable bonds? Either holders are long-term institutional investors such as pension funds, or they are banks with liquid liabilities. if the former, then these become liable to losses that are politically unacceptable as they threaten future pension provision; if they are the latter, they undermine systemic stability.
In Europe, a new law that would force all states to build up national resolution funds and impose losses on creditors through bail-ins has been proposed by the Commission, but the law won’t become effective until 2015 at the earliest, there is no provision for pooling national resolution funds and the bail-in provisions won’t come into force until 2018.
This failure of political nerves prompts a search for alternatives. Market pressures are helping. Also, individuals can make a difference. As discussed in “The Money Trap”, there are examples of successful banks that pay no bonuses, cultivate long-term relationship banking and delegate decisions to branch managers. One such is Handelsbanken,which weathered the crisis well. Could all banks be like Handelsbanken? They could. Credit would doubtless become more difficult to obtain for the average consumer or business, reflecting their prudent approach. But isn’t that what we need to make banks stand on their own two feet?
It calls itself “a modern bank built on traditional values” and I am delighted that a branch will open in Hampstead, the district where I live in London, this year – joining one of 100 already operating in the UK. I look forward to meeting Denis McArthy, the branch manager. If they will have me, I will seriously consider moving from the British bank I have used for more than 50 years. Enough is enough, especially as the UK government is backing away from proper reform (for my analysis of the problem, see Chapter 10 and for the long-term solution Chapters 14 and 15).
Meanwhile, another big financial crash could come quicker than most people think – and it will be necessary to spur needed reform of the global financial system and exit from The Money Trap.. That will involve finding a new basis for banking and finance (based on a much greater role for equity, as discussed in my previous post on 11 September and Chapter 15).
Towards the next crash
The next financial crisis can’t come fast enough.
The political tide is backing off the banks. Few politicians in Europe or the US are willing to support moves for more radical reform. They just want to get the banks lending again. In practice, that means pressing banks to accept the risk of big bad debts down the road…and so set the stage for the next big bust-up. Regulators know their remedies are not going to work, and will saddle banks with enormous costs. How crazy can you get?
Many officials around the world understand the need for stronger action. It should involve a cap on bank size, by balance sheet totals; incentives to ensure diversity of business models, legal forms and ownership structures; a simple leverage ratio; and macro-prudential oversight. Such a structure, designed to end too-big-to-fail, would gain credibility when it managed failure of a small entity, and then a medium-sized one. The essence of such a resolution process is simple: depositors are plucked out of the failing entity and put into a sound one; the rest of the failing entity is then dismantled, with losses falling on shareholders and creditors. Only such reforms can restore market discipline in the system.
As argued in “The Money Trap”, the condition is that the big banks are broken up. When they are too big, it is impossible to take all the depositors out and plunk them down in another institution. Yet banks have persuaded governments that breaking them up will threaten their ability to lend more – the reverse of the truth.
Efforts to instil market discipline and end too-big-to-fail simply by building systems to “resolve” banks are not credible. The only way to make a large institution “ready for failure” is in practice to re-design the entire financial system.
Flunking that, the policy-making is focussed on “bailing-in” creditors. But these quickly become very difficult and expensive, and have big weaknesses.
Who is going to hold these bail-inable bonds? Either holders are long-term institutional investors such as pension funds, or they are banks with liquid liabilities. if the former, then these become liable to losses that are politically unacceptable as they threaten future pension provision; if they are the latter, they undermine systemic stability.
In Europe, a new law that would force all states to build up national resolution funds and impose losses on creditors through bail-ins has been proposed by the Commission, but the law won’t become effective until 2015 at the earliest, there is no provision for pooling national resolution funds and the bail-in provisions won’t come into force until 2018.
This failure of political nerves prompts a search for alternatives. Market pressures are helping. Also, individuals can make a difference. As discussed in “The Money Trap”, there are examples of successful banks that pay no bonuses, cultivate long-term relationship banking and delegate decisions to branch managers. One such is Handelsbanken,which weathered the crisis well. Could all banks be like Handelsbanken? They could. Credit would doubtless become more difficult to obtain for the average consumer or business, reflecting their prudent approach. But isn’t that what we need to make banks stand on their own two feet?
It calls itself “a modern bank built on traditional values” and I am delighted that a branch will open in Hampstead, the district where I live in London, this year – joining one of 100 already operating in the UK. I look forward to meeting Denis McArthy, the branch manager. If they will have me, I will seriously consider moving from the British bank I have used for more than 50 years. Enough is enough, especially as the UK government is backing away from proper reform (for my analysis of the problem, see Chapter 10 and for the long-term solution Chapters 14 and 15).
Meanwhile, another big financial crash could come quicker than most people think – and it will be necessary to spur needed reform of the global financial system and exit from The Money Trap.. That will involve finding a new basis for banking and finance (based on a much greater role for equity, as discussed in my previous post on 11 September and Chapter 15).
Written on September 23, 2012 at 12:57 pm, by robert
Categories: Banking, Homepage, News and Comment, RP's Diary | Tags: banking, central banks, euro, Europe, finance, global financial system, robert pringle, The Money Trap