Posts Tagged ‘bank reform’

A little clear thinking

November 18, 2014

I am posting a number of documents by Adair Turner relating to the concept of ‘helicopter money’. The term was coined by Milton Friedman and refers to the idea of simply dropping money into an economy to expand the monetary base without any commitment by a government or central bank to ‘pay’ for the money. Indeed, the point is to increase money supply, possibly permanently, in order to pay for government expenditure.

Printing money to cover a government’s bills is never going to be an easy policy to sell. But Turner has bravely put this option on the table because the place to which the major economies of the world are heading under current policy may actually be worse.

How so? Turner’s point is that the policy of central banks expanding their balance sheets and flooding financial markets with cash to force down interest rates to zero is merely fuelling asset bubbles – in real estate, in stocks, and even now in things like fine art. What the world needs is a return to somewhat higher interest rates to head off another speculative bubble and bust (selling some Apple shares yesterday at 18 times earnings and more than four times what I paid for them reminds me we may already be in bubble territory). The problem, of course, is that higher interest rates cannot come at the expense of another collapse in the demand in the real economy and hence a spiral of 1930s-style deflation. Logically, as Turner argues, the only option may therefore be to expand the monetary base, create a bit of inflation to allow a meaningful rate of interest, and simultaneously use the printed cash pay off some government debt and fund expenditures that maintain real economic growth.

Such a policy would (probably) put the fiscal boot on the other foot compared with the past six years. Almost all UK and US policy since 2008 has favoured those with assets – real estate, stocks and bonds — as asset values have been restored by the near-zero interest rate policy. If rates rise, those who hold assets under leverage will pay more debt service and asset prices will come under pressure. On the other hand, a positive real interest rate gives those with only a bit of cash (the young, the poor) some return on their money in the bank, while money creation can pay for lower taxes on work and investment in things like infrastructure. In other words, such a policy tilts the table away from those with assets and towards those without assets but with a willingness to work for a living. You begin to see quite how outrageous this proposal is…

The proposition is indeed shocking. However it is a measure of the times in which we live that you really should read what Turner is saying. He is not a red, and nor are the economists (like Milton Friedman and Irving Fisher) whom he cites in support. Turner is pretty much an Establishment figure…

The lightest iteration of what Turner is saying is an FT opinion piece from last week. I have not done this before, but I am reproducing it in the hope the FT won’t pursue me for breach of copyright. (Having only been paid £250 for my recent opinion piece for them, perhaps they will decide they owe me a bonus; one notes that deflation is already haunting the Pink’Un.)

November 10, 2014

Printing money to fund deficit is the fastest way to raise rates

By Adair Turner

No technical reasons exist for rejecting this, only the fear of breaking a taboo, writes Adair Turner

What is the right course for monetary policy? The International Monetary Fund seems to answer with forked tongue. Its latest World Economic Outlook urges that monetary policy should stay loose to stimulate growth. Yet its Global Financial Stability Review warns that loose monetary policy risks creating financial instability, which could crimp growth. In fact the best policy is to print money and raise interest rates. That sounds contradictory, but it is not.

The global economy is suffering the hangover from many decades of excessive private sector credit growth. In 1950 private credit in advanced economies was 50 per cent of gross domestic product; by 2007 it was 170 per cent.

After the 2008 crisis, households and companies began trying to pay back what they owed. This depressed consumption and investment, generating large fiscal deficits as tax revenues fell and social expenditure rose. It then seemed essential to balance public sector accounts, which has depressed growth further and made deleveraging harder.

Debt owed by the public and private sectors has actually increased as a proportion of GDP, from 170 per cent five years ago to 200 per cent today. Weak demand has led to below-target inflation in all major economies.

Economists agree that this is how we got into the current mess, but they disagree about how to get out of it. Some, such as Paul Krugman and Lawrence Summers, argue for more relaxed fiscal policies. Cutting taxes or increasing public expenditure is the most certain way to stimulate demand. In Milton Friedman’s words it is an injection directly “into the income stream”. But this route out of recession would increase public debt even further. It seems blocked.

Instead, most countries have opted to combine fiscal tightening with ultra-loose monetary policy, setting short-term interest rates close to zero and using quantitative easing to reduce long-term rates and boost asset prices.

There are no technical reasons to reject such measures, only the fear of breaking a taboo.

But there are dangers. Sustained low interest rates create incentives for highly leveraged financial engineering. They make it easier for uncompetitive companies to survive, which could stymie productivity growth. And they work by restarting growth in private credit – which is what led to our current predicament. The Bank for International Settlements therefore argues that monetary policy should be tightened as well as fiscal, but that would depress demand yet further.

We should indeed seek a swift return to higher interest rates, to remove the dangerous subsidy to high leverage. But paradoxically, the best way to do that, particularly in Japan and the eurozone, would be to deploy a variant of Friedman’s idea of dropping money from a helicopter. Government deficits should temporarily increase, and they should be financed with new money created by the central bank and added permanently to the money supply.

Money-financed deficits would increase demand without creating debts that have to be serviced. This would lift either real output or inflation and allow interest rates to return to normal more quickly. True, banks might amplify the stimulus by creating additional private credit, but they can be restrained with higher reserve requirements.

There are no technical reasons to reject this option, only the fear that once we break the taboo, money-financed deficits will be used on too large a scale.

Despite that fear, de facto monetisation is inevitable in some countries, even if policy makers deny it.

Japan’s official policy involves using sales tax increases to make government debts sustainable, while massive monetary stimulus spurs inflation and growth. In fact there is no believable scenario in which Japan will generate fiscal surpluses sufficient to pay back its debts, nor one in which the Bank of Japan will sell all its holdings of government debt back to the market.

All the same, the pretence undermines the effectiveness of the policy. Japan should either delay the next sales tax increase, or announce a temporary fiscal stimulus financed with new money. It should make clear that the debt the government owes the central bank will never need to be repaid, dispelling fears of a massive future fiscal tightening.

Orthodox theory sees helicopter money as risky. But current quantitative easing policies are at least as risky, and have produced adverse side effects. In the UK the Bank of England has bought £375bn of government bonds to try to stimulate the economy through swollen asset prices and rock-bottom interest rates. It could instead have created new money to finance a smaller one-off increase in the fiscal deficit. If it had done so, a return to normal interest rate disciplines would now be nearer.


More. Turner for grown-ups:

Turner’s original CASS business school speech on this subject (2013)

And the slides that go with the CASS speech. (Lots of them, but many worth having if you live in the UK and are about to have people knocking on your door in the run-up to the May national elections asking you to vote for them. ‘Come in,’ you can say. ‘Have a seat and let’s look at the slides together!’)

A bit of Q&A with Turner and Michael Woodford from the Institute For New Economic Thinking blog.

Finally, on Thursday 20 November, the UK parliament will hold a backbench debate on the topic of ‘money creation and society’. It will be the first time that the issue has been addressed in a full debate in the House since the 19th century. You can watch here on Parliament TV and discover just how ill-equipped our politicians are to deal with the aftermath of the global financial crisis.



It takes an anthropologist…

June 20, 2013

… to tell us what neo-classical economists never could. Read this. And then, if you are a neo-classical economist, try fitting it in your spreadsheet.

Joris Luyendijk writes a banking blog for The Guardian.

After some reflection, I think that the Vickers report is too tame, driven by some rather weak desire to be different to the US re-regulation of the finance industry. Britain should be different by doing better than US re-regulation.

The place I would start would be by turning the retail banking operations of RBS, and perhaps Lloyds as well, into mutuals, controlled by employees and depositors and restricted to doing what the customers want and think is right. Of course, this is not simple. I bank with Nationwide, which offers better service and costs than normal banks, but whose senior management still spends too much time aping the behaviour of bankers rather than trying  to think like a mutual society. We should go mutual at the retail level and concurrently improve mutual governance and incentives for mutuals to lend in ways that are profitable and help the economy (like encouraging them to develop project finance units for business lending).

Beyond that, no ring-fence. Just a total separation of the retail and industrial working capital functions of the banking system from more speculative activities. The bankers say it can’t be done. But that is because they don’t want it to be done.

It can be done. It just requires the political cojones.


Bank of England calculates a £27bn capital shortfall at UK banks at end 2012 as the deleveraging process continues. Reported in the FT (sub needed) here.  Reported here in The Guardian, which notes that Nationwide was only short £400m. Note that the capital shortfalls will largely be paid up by the poor, who do not own equities and keep what little money they have in banks, which pay no interest as a result of the financial crisis. The poor are also beginning to pay in terms of rising inflation. Socialism for the rich, mon brave, capitalism for the proles!

Even more:

Just seen that Obama repeatedly referred to George Osborne as ‘Jeffrey’ at G8. Then he claimed he was confusing George with his ‘favourite’ r&b artiste, Jeffrey Osborne. Surely this is some bad-ass mind games? Obama can’t really like Jeffrey Osborne, can he? On the Wings of Love? What he’s really saying is that Jeffrey Osborne is probably George Osborne’s idea of an r&b artiste… I am actually sitting here feeling sorry for George.

Next day:

Spurred on by the anthropologist, Martin Wolf makes his boldest statement on bank/financial system reform (that I have seen) in the FT (sub needed). Not sure why they aren’t flagging it on the front page just now (FT pension fund all in bank stocks?). I agree with most of what Wolf says, though I reiterate that this ring-fence idea is silly. If the Americans don’t need it – and the concomitant risk – why do we? Also, I don’t think we need special laws for locking up bankers. I am as keen as the next man to see some City types doing time, but it should be done through regular legislation. The game is to have a simple regulatory structure that forces the money people to write stuff down, so that when they break the law there is a piece of paper that the lawyer can hold up in court and say: ‘M’lud, this asshole needs to go to prison.’ If you want a good new law, let’s have one to make the granting of honours in the British system a matter for an independent panel, so that people like Fred the Shred and Howard Davies don’t get knighthoods in the first place.

A reader sends in this link to a Youtube video. It’s kind of funny, although the authors of the skit don’t understand the first thing about John Maynard Keynes, judging from the lyrics. It’s kind of British liberal Tea Party humour, if that is possible, which I guess it must be because they’ve done it. Thank god it’s Friday…

Martin Wolf can make us feel dumb, but George Osborne makes us all feel clever…

February 27, 2013

Martin Wolf has a nice review of policies of economic austerity employed in different states since the start of the global financial crisis. (You will need an FT sub.) Although he doesn’t articulate it as strongly as I would like, his basic point is simple: the crisis is not a macro-economic problem soluble by austerity. It is a micro-economic problem, or rather two different micro-economic problems.

The first problem, in the ‘Anglo-Saxon’ countries, is the need to re-regulate finance in order to stop bankers taking unreasonable risks with other people’s money. This is sort of being dealt with (including in the UK by the Vickers Commission on which Wolf sat), albeit for me in a somewhat ham-fisted, messy way that will eventually bring us more problems.

The second micro-economic problem is that a bunch of states that developed fast after the Second World War by means of close government control in order to foster industrialisation (Japan, Italy, France are the main ones) need micro-economic deregulation, especially of their labour markets and government and legal institutions, in order to return to growth and pay off the large debts they built up while becoming rich countries.

So the crisis (or two distinct crises), as Wolf writes today, has very little to do with macro-economics and is, in general, made worse by austerity. If it has taken you a while to wake up to this, however, do not fear. For in Britain we have the person who will perhaps be the last in the entire world to understand what is going on around him: George Osborne.

George Osborne fixes cufflink

I haven’t written anything about George since the UK’s loss of its AAA credit rating, because there is nothing to add. Here is what I said about George in January 2011. And here is an update from November 2011. What happened since? Looks to me like four out of the past five quarters showed negative growth. The graph below is from the Office of National Statistics…

UK Quarterly GDP to Q4 2012 inc














Ten days later:

Martin Wolf follows up with another attack on Osborne’s policy (FT sub needed), which Brave Dave has come out to endorse without reservation. Meanwhile, latest data suggest the chances of a triple dip recession are now as high as 50:50. All I would add to what Wolf says is that the contrast with the early 80s recession turns on the fact there are no major structural adjustments to the labour market that can be made in this crisis to get the economy moving. Unlike in the early 80s, Britain already has a very flexible labour market. This is why (as in the United States and unlike in continental Europe) unemployment has been lower than the scale of economic contraction would suggest. But it also means that monetary policy alone cannot solve the problem and actually discourages many people from undertaking the deleveraging their finances require. Back in 2010 I thought Osborne would realise this within a couple of years and listen to Vince Cable. Ho, ho, ho…


Vote Romney

September 18, 2012

Extraordinary. Mitt Romney has come out during a private meeting with donors and finally told it like it is. I wake up this morning to find a video on YouTube in which Mr. Romney angrily states:

‘Ninety-eight percent of people who work in banking and private equity are dependent on government, believe they are victims, believe the government has a responsibility to care for them. These are people who pay almost no tax.’ He goes on to remark that: ‘These people think they should get a bonus whatever. No serious politician could be expected to represent them and I’ll never convince them they should take responsibility and care for their lives… they are frankly beyond redemption’.

What a ballsy guy. I’m a born-again Republican. Go Mitt!


Sure enough…

Reading the rest of the press I discover that less principled Republicans are already urging Romney to stay away from THE TRUTH and merely reiterate the tear-jerking story of his childhood.

Oooh la la…

November 14, 2011

Should have posted this rather nice graphic from the NYT a few days ago, showing debt relationships in Europe.

It reminds us, as Mario Monti goes to work, that the Italian debt buck stops in France.

For it is the French banking system that has a net exposure to Italy of something over US$350 billion.

When the history of recent world banking is written, US and  British bankers will take the prize for unadulterated, venal greed and selfishness.

But French bankers must surely lift the trophy in the combined greed-with-stupidity category.

The French liability in Italy is about 15 percent of French GDP. Which particular risk model were the French banks running when they decided that was a good idea?


October 29, 2011

Here is an interesting panel discussion about the Icelandic financial crisis. It is chaired by Martin Wolf (see blogroll), and includes Paul Krugman (see blogroll), Simon Johnson (see blogroll), a deputy director of the IMF, the current head of the Icelandic central bank, and another knowledgeable Icelander.

To recap: Iceland had by some measures the worst financial crisis in the history of the world (Wiki summary here.). However, because there was zero chance the country could bail out its banks — and it is not a Euro area member — they had to go bust, capital controls were introduced, and foreign wholesale funders of the Icelandic banks took the main financial hit. The obvious comparison is with Ireland, which has a similar-size crisis but is in the Euro and partly as a result was forced to go the bank rescue route. So, while Iceland has written off much of its bad debt and is recovering, Ireland is presently set to honour every European cent it owes and faces a decade of painful adjustment.

The event was filmed this week and runs to 1.5 hours. It is just about worth watching the whole thing, but if you don’t have time, scroll through and check these highlights as a taster menu of the way the world has changed — intellectually — as a result of the global financial crisis.

6 mins: Martin Wolf talks about the previously unthinkable phenomenon of the IMF admitting to mistakes.

30 mins: An IMF deputy director actually says: ‘Capital controls were probably the best thing that could be done at the time’. Remember that when the Asian crisis broke in 1997 the IMF was trying to change its articles of association to make a battle against capital controls a centre-piece of its mandate.

57 mins: Martin Wolf talks about the ‘new, cuddly IMF’.

62 mins: The point is made that the lessons of Latin America 1982 and south-east Asia 1997 have were finally learnt such that they could benefit a country (Iceland) whose population is the size of a mid-western town in the US. Roughly speaking, bad US, IMF and World Bank policies were used on approximately 1 billion people in order to learn positive lessons that have been applied to 300,000 people.

89 mins: Martin Wolf talks about the Vickers plan for UK financial sector reform, which he refers to as ‘modern Glass Steagall’. I think it would be fair to say he hopes that this is what it will turn out to be, since the ring-fencing strategy put forward by the final Vickers report has not in fact been tried before.


Final thought: the very moment when the IMF is said to have become ‘cuddly’ may be the one when it needs to not be cuddly. Italy, which I continue to believe will require IMF intervention, cries out for the toughest and most invasive kind of IMF action if it is to remain in the Euro area. This includes intervention in institutional areas like legal system reform where the Fund has never previously (to my knowledge) been active. Just when the IMF decided to be nice and listen to Icelandic policy makers, it needs to be Mr. Bad Cop to have any chance with Italian ones. In saying this, I stand by my own preference for Italy to be pushed out of the EU and forced to confront its problems itself — because only that will really force the country to grow up.

Shaggy dog

October 27, 2011

It’s another fudge from Europe. The European Financial Stability Fund has been ‘theoretically’ expanded through approved leverage to perhaps Euro1 trillion. Private holders of Greek bonds will ‘theoretically’ take a 50 percent hair-cut, though no details have really been agreed. Silvio Berlusconi has delivered a letter ripe with fulsome promises of structural reform in Italy, to add to lots of other fulsome promises he made before.

It was clear in recent days the markets were ready to accept some more thin European gruel as ‘good news’. Corporate earnings in the US continue to be strong and the latest US GDP figures suggest the American economy is slowly crawling away from the abyss. The very slow improvement in the US macro numbers is the bigger economic story, albeit less trumpeted in the press.

The European train wreck waiting to happen has been moved back down the line. But not far. In the absence of any substantive structural change in Italy, a train wreck there will be. The base case remains remains an Italian fiscal crisis and IMF intervention in the absence of any EU capacity to address the problem.

In the mean time, Italy’s negotiating position can only be strengthened by the ECB’s continued purchases of its debt (EU debt socialisation by the back door) and by the Greek debt hair-cut (What about us, another ‘young’,  ‘peripheral’ European state?). Time to write about something else for a while.

Next day update:

Porco cane! Rome auctions some debt this morning and the market still wants 6 percent (FT sub needed)… In fact the cost of Italian public debt has gone up to a new record. Is it possible that people outside the Italian elite are less stupid than they thought?

Sunday bloody Wednesday

October 20, 2011

Italian debt yields are back over 6 percent. So France and Germany react by announcing that Sunday’s last-chance saloon summit on European debt and economic restructuring will go ahead, but won’t reach any decisions. Instead there might be another summit on Wednesday. Or Thursday. Or next weekend. Maybe Sarko and Merkel are hoping the markets will really fall apart so they can be seen to be forced to do something. This is the most likely endgame. But of course if they are forced by a market crisis, France and Germany will react with a bail-out package rather than a new political agreement that puts the EU on a sustainable track to being the world’s most desirable economic bloc to live in. That would involve a political and institutional agreement, not a conclave of thieving banker types trying to structure the EFSF in a sufficiently complex way that the world is conned into thinking that all is well.

While pondering this, I check the press at the end of the day and am saddened to discover that Berlusconi is dead. ‘Maverick dictator with little regard for reality’ says the headline of the obit in the FT (sub needed). It is a bit tough to say of a deceased G8 leader that he ‘had a grandiose vision of himself and of his country’s place in history’. None the less, Italians certainly ‘were impoverished and repressed by his policies but nonetheless forced to pay homage to the illusion that he was a political visionary’. However, surely the FT has got it wrong with the claim that Berlusconi was born in a tent near Sirte in 1942? Wasn’t he born in Milan in 1936?





Who knows more about extortion, Part II

October 5, 2011

You will remember that back at the start of August in Banking the Sopranos I took a look at Italy’s debt profile and suggested that a) the markets were going to realise that Italy is a much worse risk than Spain and b) that the scale of the Italian liability is such that the power of extortion lay with the Italian side in its dealings with the EU. The Italian government then — in a stroke of comic genius — promised to legislate to make itself solvent.

Two months later we have senior IMF officials saying the Fund is ready to buy Italian debt, and northern Europe (Germany) readying to recapitalise banks such that they can survive big write-downs in ‘peripheral’ country sovereign bonds. The Sopranos look to be almost home and dry without even having to make Mrs Merkel an offer she can’t refuse.

But have the Germans really thought this through? Even if German banks had to write down 50 percent of the value of their (Greek and) Italian bonds they could manage with government back-stop of Euro100 billion, or less than 3 percent of GDP. It is a heavy price, but the return would include pushing Italy out of the Euro as a very profound lesson to other EU miscreants (particularly the eastern European periphery) and giving a world-first lesson about moral hazard to the banking sector, which would eventually have to pay off the write-down. People say that Italy is an important market for Germany, but given the condition of the place it is not going to be a growth opportunity for anyone. Sometimes, as the Chinese say, you need to cut a monkey’s head off to scare the chickens.

I say all this as someone whose family assets are largely concentrated in Italy. We have more than most to lose. And yet I think it would be better to throw Italy to the dogs than to move forward with a bail-out that enforces no fundamental structural change. Either Italy should be inside the Euro with a dramatic structural reform programme led by the IMF, or else outside it with a debt reduction but no one to turn to but itself. As I have written before, if Europe wants a more worthy cause for its patience, why not try Turkey?



There are FT discussions of latest European bank bail-out plans here and here (sub needed).

10 cents on the Euro

August 20, 2011

Here’s a weekend snapshot of the death throes of Italy’s financial system…

On a five year view, the share prices of the country’s big 3 banks are close to being — in strict terms — decimated. Intesa SanPaolo is worth about 15 cents of what it was, Unicredit 12 cents, and Monte Dei Paschi di Siena has already breached the 10 cent barrier.

Both Intesa and MPS are well below their previous financial crisis lows of March 2009.

On recent trends, next week should see all three big banks in decimation territory. The main reason, as discussed here, is their exposure to Italian public debt.

When a bank’s share price is decimated, what happens? Other banks will not lend to it, lest they fail to get their money back. The interbank market closes its door. That may already be happening since the ECB conceded this week that it extended significant funds to one unnamed institution.

As well as buying up all Italy’s debt as it rolls over, the ECB may in the next few days begin funding all its banks as well.

Still, as Frau Merkel and Sarko like to point out, it’s not like they have agreed to issue Eurobonds.

We should get a number on Monday for what the ECB spent in the full week up to last Wednesday on Italian (and Spanish) public paper. My guess is we are in for a monster. Northern European taxpayers will want to avert their eyes.

My own bank is Monte dei Paschi (motto: ‘Medieval bank, medieval service’). I was in there on Friday, discussing the unannounced interruption of my e-banking service (apparently anyone who had not used it for three months was cut off for ‘security’ reasons; I have now been restored). The friendly staff, in their ridiculously spacious branch, didn’t seem fazed by the fact their employer’s market capitalisation is now less than US$3 billion and headed for zero.

Perhaps they think it will be more fun working for a foreign bank? I very much doubt it will be. When the IMF comes in, MPS has to be the prime candidate for takeover by a foreign institution (HSBC? StandardChartered?). My guess is that Italy will be forced to throw at least one of its big banks to the foreign dogs in order to satisfy the IMF’s deregulation strictures, and number three is perhaps the most likely to go. MPS has so far survived 540 years, but this one may be a year too far (though I do not know to what extent MPS’s incorporation structure provides a defence against takeover… it may appear to provide protection, but when the IMF shows up, all bets are off).

Hold on tight now.


Update, Monday 22 August:

The ECB today confirmed Euro14 billion of government bond purchases under its Securities Markets Programme in the week to last Wednesday (11-17 August), less than I had been expecting. Still, we are at Euro36 billion in two weeks, and rising. Meanwhile the Bundesbank explicitly criticises the reactivation of the bond purchase programme in its latest monthly bulletin, jacking up the political pressure in Germany. Stock prices of IntesaSanPaolo and Unicredit continued to fall today, despite a small rebound in European markets; the most bombed-out counter, MPS, rose.

Here is the full history of SMP purchases since May 2010 (ie. Rounds 1 & 2).

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