The global financial crisis should be seen as a symptom of the lack of fit between three pieces of the jigsaw of modern finance – national or regional monies, innovative financial markets and a globalized financial system. It provided both an encouragement and a warning – an encouragement to search for alternatives and a warning of what would happen if we did not quickly find an appropriate solution.
It is obvious that we are far from finding a solution. So everybody expects anoher crisis, though nobody can say when it will come or in what shape. Governments are despereate to announce victory and move on. But pathetic levels of investment in the developed economies give the lie to such empty reassurances. As in 2003-06, regulators are lying through their teeth when they say their new tools will do the trick (for chapter and verse, see Chapter 2 of The Money Trap).
What continues to make this inconsistency between parts of the system toxic are the excessive influence of ‘the finance interest’, the lack of a sensible system of international adjustment and the absence of an international monetary standard. The first makes it politically impossile to solve the too-big-to-fail problem. The second means that irresponsible fiscal and monetary policies can go on as logn as governemtns can finance them – by hook or by crook. The third means investors cannot compare the long-term rates of return from cross-border ventures, so such investment is inevitably dominated by speculative short-term capital flows rather than by long-term direct investment.
Crises will recur so long as these three faultlines stand. What is needed is a standard that links the (official) monetary system properly to the (still nominally private though in effect part nationalised) financial sector. That is why it is necessary to integrate discussions on the future of banking, and reform of financial regulation and structures on the one hand, with debate on the future of the international monetary system on the other. Many of the problems originate in domestic banking and finance but the solutions can only be international.
The future of banking
As regards banking, I am delighted that Martin Wolf, the FT’s chief economic commentator, has joined the ranks of radical reformers. He has helped to blow the debate on the future of banking wide open (see Philip Booth’s excellent response here). Again and again, the banking problem has been at the core of financial and economic disasters. Each time, the public has carried a large part of the cost. Each time, regulators and central bankers say ‘We are learning, we will do better next time’; or, my favourite, ‘The search is on….’ for a solution. Now we are told that future stress-tests will be incredibly tough – oh, give me a break! It is a way of not facing the problem. How can stresss tersts ever be tough enough when the banks remain too big to fail? Stop treating the public like children. Under current conditions, stress tests merely prove that big banks are indeed too big to fail, lower their borrowing costs further and thus increase the public subsidy they receive. Stop treating the public like children.
But reform of banking must be combined with reform of world money. Unrealistic? Yet a few years ago it would have been seen as crazy for the FT’s chief economic commentator to call for the abolition of banking and the state take-over of money! Under pressure, minds change.
Changes to the structure of banking already under way, such as ring-fencing retail banks, are merely as interim steps towards a full reform. In “The Money Trap”, I already came to the view that nothing short of the elimination of banking as we know it will be sufficient to remove the threat that the existing organization of banking still poses to the economy – even, given their political clout, to democracy. Applying the principles mentioned above, I would opt for a reform under which bank assets are converted into investments in securities held by unit trusts (mutual funds); their assets would be direct investments in the real economy and their liabilities ‘shares’ where the risks are born by the investor (depositor). Two options are outlined. The globally systemically important banks will probably break up under regulatory and commercial pressures anyway; yet even that will not solve the systemic problems of banking.
…and a new international currency unit
Such a transformation of banking has to be accompanied by the establishment of a new international monetary standard. A global investment currency standard, together with mutual fund banking, would banish bank failures. We cannot banish the real, systemic risks of economic uncertainty, so customers, deposit holders, should bear the risks of a fluctuation in the value of the currency. But we can banish unnecessary risks that arise from the monetary measuring rod we use and from the way in which financial intermediation is organised.
Such a monetary standard could be developed using the technology available as a result of the progressive globalization of capital markets. The currency unit would be fixed against the global market portfolio, so that the general level of equity prices were stable in terms of money. Its real value would increase with the growth in the world economy. Those holding money would have claims on the future of the world economy, giving every citizen a stake in it. As its real value would increase with the growth in the real value of equity claims, cash would be in high demand as a means of payment and store of value. The supply of money defined in this way could be self-regulating, as the supply of money is at present under currency board arrangements. A global currency board would passively issue money defined in this way on demand, just as the Hong Kong Monetary Authority issues Hong Kong dollars. There would be no need for a global central bank, which is a political impossibility. Existing currencies could continue to exist, but they would all have a fixed value in terms of the international currency, or Ikon. It would be a wholly voluntary standard.
The great classical economists assumed the need for a monetary standard. They all tie money, albeit in different ways and through different connections, to the real side of the economy. Remember that the original insight behind giving central banks independence was to make them responsible to the people rather than the government, but unfortunately it didn’t work out as intended. In that sense also, these proposals represent a return to the ideas of those pioneering monetarists, but in a one-world context suitable for a globalised economy. It would put money into a quasi-constitutional realm above the cut and thrust of day-to-day politics. Don’t tell me that is pie in the sky. It has been the practice for hundreds of years – for most of human history until the year 1971. It was true both of the gold standard and Bretton Woods. It is the past 40 years that is the historical aberration.
Get rid of these parasites
Yet rational discussion is drowned out by the weight of propaganda from the establishment. Despite the evidence of disintegration and looming anarchy, governments cling to current monetary arrangements and reject calls (from China among others) for reforms that would bring about a more disciplined order. Pliable money suits many interests – not just governments, but also top bankers, financial middlemen, the fixers, the brokers, the agents, the advisers, all who cream off that little, almost imperceptible, percentage of the public’s money, whether in commissions, taxes, inflation, or default. Newspaper revenues depend on them. Governments depend on them. Academics advise them. Central banks and international institutions use public money to employ them. Universities teach them. And, above all, the public has been persuaded to believe them, to value things in terms of official money.
There is another way. There are traditions of thought, including contributions from some of the world’s most respected economists, going back a hundred years or more, that insist: it does not have to be like this. We don’t need to reinvent the wheel. We need to study what has been written and said before, and adapt it to our needs. The purpose of the options reviewed in my book is to encourage readers to resist current propaganda, whether from banks, regulators, governments or economists. The money manipulators have been given the benefit of the doubt for far too long.