Macroprudential policy

Not only can the authorities rely on the willingness of the banks to game the security system, they can rely on the banks sytematically undermining their own security.

Allowing depositor accounts to go stale and languish is not a good way to behave, but on its own it hurts the depositor, not the bank.

Hyping fresh new accounts to win depositors from other banks positively engourages depositor instability. Borrowing short and lending long gets riskier as short gets shorter.

The culture of aggressive competition for new deposit accounts at the expense of old ones adds to banking risk. There is a case for involving the regulatory authorities in the retail deposit side of the business as well as the lending side.

With the United States economic crisis; many people are focusing on asset based lending as a way to finance.

http://www.capitalbusinesscredit.com
http://www.facebook.com/pages/Capital-Business-Credit-CBC/299251576753108

In the vein of looking for what's missing, I find it interesting to note the almost unanimous consensus that Western economies are presently in a down cycle. This plays into the Keynesian premise that governments should be running deficits to offset 'temporarily' supressed private spending.

But what if that's not right? What if we're actually still in a comparative up-cycle? What if right around the corner is a steeper and more lasting rise in energy prices? Or some new accleration in the effects of climate change (necessitating costly diversion of resources from the 'main' economy that everyone's preoccupied with)? If so, then aren't higher interest rates and higher capital requirements now appropriate, even though they may worsen present suffering?

Searching for a way to explain the current crisis, I keep coming back to this: We've been borrowing against the future for so long that the future is finally 100% spoken for. I think the technical term is zero marginal gains.

Happy holidays everyone.

The major problem with prudential bank regulation in the UK has not been one of measuring risk, capital and liquidity; it has been willingness on the part of regulators and their political masters to stand up to bank association bullying when the banks push back.

No regulator will exercise the powers it has given for what it considers the public interest, if it knows that the regulated party can get an audience and a sympathetic ear from its political bosses. Rather wait for the Chancellor to urge "flexibility" and "competitive awareness" the regulator will cave-in straight away. Such has been the history of British prudential regulation.

It is the utter spinelessness with which the regulators and politicians of the UK treated banks that lead to billions of pounds being spent propping up duff banks. Until this issue is dealt with, all the rest is noise.

Dear sir

Allow me to congratulate all the redactional team of the magazine for the high tenure of the pieces thy write.
I am reading "The Economist" constantly for 11 years and I can asses that the balanced approach of macro-economic and political matters really have a global impact, far beyond UK borders.

Merry Chrismas

Happy New Year for all the team

Popa Liliana

Romania

Merry Christmas, Buttonwood, and season's greetings to the others gathered around. Hedgie, your kin are just trying to protect your reputation.

What is clear is that the authorities cannot rely on just one or two measures, esepcially given the proved willingness of banks to game the system.inflation or deflation is not a good thing for govement,so the government should make the budget perfect and control the reserve requirement and interest rate. let the illiquid market go stable operation

I'm not sure why a better overall result was expected when the power to control the currency was delegated from national treasuries/mints to private central banks. Prior to the Federal Reserve there were periodic credit crises, panics, bank runs, insolvencies. Yes all of that. But their resolution was shorter in duration, entailed less cost on behalf of the taxpayer (though sure, taxpayers suffered, are they not now?), and generally apportioned loss to the risk-takers principally.

So we can go back to ancient times, when the sovereign clipped coins to make up for deficits. Seignorage or whatever you'd like to call it. At least it was something anyone with a scale could observe and calculate. And presumably they felt like they got something for it in the form of government services.

Dare we return to a Constitutional monetary system?

"But since inflationary pressures were low, thanks to the deflationary shock stemming from China and eastern Europe, rates were kept low."

IOW, banks printed credit/debt like mad to keep CPI prices going up. That is, banks confiscated the entire productivity gain from improved trade, and converted it into excessive debt, which then fueled serial Minsky. Banks prevented ordinary consumers from benefitting from improved trade. Consumers would have benefited from trade had CPI prices been allowed to go lower. Consumers would have been able to buy more with their paychecks/pensions, without debt.

The result of printing this much credit/debt was capital misallocation on a grand scale. Lots of Keynesian pyramids got built, but few productive factories. Businesses constructing Keynesian pyramids went bankrupt, and unemployment soared. Central planning of prices prevents the free market from allocating capital to its most efficient use, since the free market depends upon price signals to monitor the state of supply and demand.

Instead of allowing free trade to result in a better standard of living (lower CPI prices), banks printed a credit crisis for the record books. Millions of empty McMansions that cannot be paid for are one example.

Buttonwood,

Congrats on the book and good luck on the sales.

While we await its release (per jomiku) would it be advisable to read,
"Guide to hedge funds: what they are, what they do, their risks, their advantages" ?

I ask that because it is available at my local library.
I'm picking it up today when I pick up "Inside Job".
(Finally! after 8 months in the queue.)

Enjoy your holiday.
---
Cornish expat,

I tossed in a comment to Mika.
Take another look.

Regards

Yes the banks were part of the problem.

I tend to think of banks as a bartenders.
They both offer a product and one has to go into
the establishment and demand the product.

Whatever happened to the "lean agaisnt the wind" policy
that was discussed before the crisis?

That policy is to increase capital and decrease leverage
going into a bubble or expansion and decrease capital
and allow for an increase of leverage during a downturn.

Much like the "global rebalancing" policy, it seems to have fallen by the wayside.

Regards

Reminder: tease the book in February because it doesn't come out in the US til then.

You realize that hidden in the story you tell in this post is that banks were trying to match maturity with risk, that decreasing term shortened cycle exposure, that it was an attempt to mitigate mismatched cycles of real estate and other assets. This backfired for a bunch of reasons. You note the focus on shorter-term liquidity risk, but that came to the fore because, well, of stuff your book likely talks about. My point is that there is no way to avoid risk, that shortening term - in trading, to next to no time at all - carries other risks than longer cycle lending. My feeling is we did not and still do not understand the risks inherent in shorter term lending and transactions. We did understand much better longer term investment, from spice trade by sailing ships to brick and mortar lending.

Maybe if we moved to shorter term without the giant securitization structure of modern finance. Maybe if we had the securitization structure but only longer term. The two together seem poisonous.

I wonder if it would be possible to develop a standard for bank capital which limited the value (for capital requirements) assigned to an asset to rise no more than xx% (50% perhaps?) over the course of some number of years. If the price of the asset rose more than that, the bank could only count the base price (plus the allowed increase) in determining its capital ratio.

Granted, there might be assets whose real value increases faster than that. For instance, a raw material which suddenly acquires a new and valuable use. But something along those lines seems the only way to reduce the impact of asset bubbles.

Fascinating and intelligent (and intelligible!) Also, congratulations on the book and its review - I will definitely read it.

But what I found intriguing is the comment by Mika at the end of the review. Is it correct that - generalizing from a generalization - most debt is based on Monopoly money? (I have often wondered where all that money for loans came from. Mika says the banks simply pretended they had the money and then lent it.)

If that is true, then what is to stop governments, by "fiat", simply requiring the banks to write down a percentage of al debts, immediately de-leaveraging most households and companies? I suspect the answer is that the Central Banks now hold a lot of these debt obligations and would be wiped out, but I don't know. The "real" (cash) money supply would not be affected as far as I can see. And it would be fun watching economists and financiers trying it make sense of this brave new world!

The biggest problem facing the world's economy today is the massive growth in government, corporate and household debt. The prolonged period of low interest rates has lulled our corporate and government leadership into thinking that this is the new norm; they can go on borrowing endlessly without repercussion. No matter how much regulation is imposed on banks to prevent over-lending, consumers will continue to borrow above their means as long as interest rates are deliberately kept low by central bankers.

Here's an article showing how debt levels around the world, including consumer, corporate and government, have grown by nearly 170 percentage points of GDP over the past 30 years:

http://viableopposition.blogspot.com/2011/12/debt-break-over-point-when-...

You must be mistaken. The combined wisdom of Finance could never behave so selfishly and short-sightedly - over and over again throughout financial history . . .

Isn't it time for an Auto-da-Fe on the Mall in DC ? We could start the purgation with Greenspan, Gramm, Rubin and Summers. These men spread false doctrine, and confused the lambs to their harm.

Why no mention of their ability to look at factors other than just CPI when deciding whether to raise rates? A focus on asset bubbles might have removed a lot of the froth from housing and reduced the availability of credit in the mid-2000s.