New Rules Weekly Update
WEBCAST: Civil Society Town Hall Meeting
During the 2010 Annual Meetings of the IMF and World Bank, New Rules for Global Finance’s Executive Director, Jo Marie Griesgraber was asked to Chair the Civil Society Town Hall Meeting.
Jo Marie Griesgraber, Executive Director, New Rules for Global Finance
Dominique Strauss-Kahn, Managing Director, International Monetary Fund
Robert B. Zoellick, President of the World Bank Group
Dickson Khainga, Director of Economics, the Kenya Institute of Public Policy Research Analysis (KIPPRA)
Dr. David Zac Niringiye, Chairperson, National Governing Council-Africa Peer Review Mechanism in Uganda
New Blog: Casinos, Utilities and the Financial Stability Board: The Case for Narrow Banking
Thursday, October 07, 2010
By Michael Prowse, Senior Visiting Fellow
A few weeks ago I accused the banking regulators in Basel of “intellectual cowardice”. I was driven to this intemperate language by their obstinate decision to plough ahead with a regulatory model that is a proven failure and their refusal to consider truly radical reform of the dysfunctional financial services industry. I have already discussed one possible radical reform: Professor Laurence Kottlikoff’s “limited purpose banking”*. This would turn banks into providers of mutual funds: in essence savers and depositors would always remain beneficial owners of the cash they place with banks. All investments by banks would have to be transparent and in the name of the provider of funds. Recycling of cash, without the owners’ consent, into speculative investment for the benefit of banks’ senior staff would be prohibited.
But there are other possible radical reforms, such as John Kay’s version of “narrow banking” Mr Kay, a former professor at the London Business School, is both an unusually creative economist and a thoughtful economic commentator for the Financial Times of London. Even those who strongly favour the Basel approach could not help but benefit from a close reading of his monograph: “Narrow Banking: the Reform of Banking Regulation”**. It is one of the most perceptive analyses of the financial crisis yet penned.
Mr Kay fundamentally disagrees with the policy of Financial Stability Board, which continues to rely on a discredited system of capital requirements – one that allows banks themselves to assess the riskiness of their asset portfolios. “No rules on capital adequacy, however complex, can account even approximately for the varying circumstances of all the banking institutions in the world,” he writes. This problem would not be soluble “even if committees sit in Basel until the River Rhine runs dry, or at least the local hostelries, run dry.”
Mr Kay rejects the idea that any public agency should have “financial stability” as its goal. Given regulatory capture this translates all too easily into policies that enable financial conglomerates to prosper no matter how poor their management – which, after all, was the effect of the massive taxpayer bailouts of 2008/09. A degree of instability is a characteristic of all competitive markets: prices fluctuate, firms gain and lose market share, and some inevitably go bankrupt. Rather than trying to achieve stasis, the goal of policy should be to minimise the costs of financial instability for the non-financial sector and to ensure that consumers get better value for money.
This latter point is central to Mr Kay’s vision of a healthy financial sector. In competitive industries that function well, big retailers compete to satisfy the demands of consumers. They take a long-term view because they need to win the trust of their customers. They therefore impose discipline on producers and wholesalers, by insisting they supply quality products that will genuinely satisfy their customers. Because retailers are knowledgeable purchasers, manufacturers who produce faulty products tend to go out of business.
Financial services evade this discipline. Investment bankers (and the investment banking divisions of commercial banks), rather than retail bankers, dominate the industry. One might have thought the fiasco of 2007-09 would have dented the prestige of deal-makers.
But no: Barclays Bank, one of Britain’s leading retail banks, has just appointed Bob Diamond, an American investment banker, as its new chief executive. We can be certain that government-insured retail deposits will continue to find their way into risky speculative investments (as yet the UK lacks even the Dodd-Frank restrictions on proprietary trading). To continue reading, click here.
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