The Existential Crisis that is Stalking Economic Principals

Covering money and banking is a full-time job

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Posted in 2007-08 Financial Crisis, Contemporary economics Tagged with: ,

Despite its longstanding interest in the problem of money (beginning with getting more of it), Economic Principals has been reluctant to turn to coverage of banking because it’s essentially a full-time, boring job, for writer and reader alike, and we seek to cast a pretty wide net. A Wall Street Journal series last week indicated the scope of the problem. “What Is A Bank?” featured eight stories over four days by eleven reporters on three continents, beginning with “The Existential Crisis That’s Stalking Banks.”

Sample fact:

The mighty Goldman Sachs in the last twelve months delivered a return on equity of 5.06 percent, less than that of the beer-schlepping deliverymen of Molson Coors Brewing.

Concluding paragraph:

There is a great creative surge coming but it won’t truly happen until those who lived the crisis are gone. Their old way of life – of pay, influence, and breadth – isn’t coming back. There’s no use in trying to resurrect it. They must die so the banks must live.

Accompanying material:

Six short essays by regulators and market participants, including Sen. Sherrod Brown (D-Ohio), ranking Democrat on the Senate Committee on Banking, Housing and Urban Affairs; Sheila Bair, president of Washington College and former chairman of the Federal Deposit Insurance Corp.; Roger Freeman, founding partner and chief technology officer of FreeBird Flight, a start-up manufacturer of drones; Richard Davis, chief executive officer of US Bancorp., of Minneapolis; Sam Hodges, co-founder of Funding Circle, an online marketplace lender; and Chris Larsen, of Ripple, a start-up focused on cross-border payments.

Clearly, technical change, shifting individual preferences, and entrepreneurial oversight haven’t yet run their course.

Meanwhile, the literature of the financial crisis continues to accumulate. It is very hard to get into focus.

The End of Alchemy: Money, Banking, and the Future of the Global Economy (Norton, 2016), by Mervyn King, former governor of the Bank of England, is the most recent, following books by US Treasury Secretaries Henry Paulson and Timothy Geithner; and by Federal Reserve chairman Ben Bernanke.  King is as assiduous as the others, maybe more so, in not criticizing those with whom he shared the cockpit at various times.  That is itself a measure of the tensions that must still exist among these men who, as “lords of finance,” didn’t break the world in 2008.  King does mention a breakfast meeting in 2006 at which he described to historian Niall Ferguson the possibility that a panic might recur of the little-remembered sort that accompanied news of the outbreak of World War I. He devotes fifteen pages to the comparison. This is as close as he comes to I-told-you-so.

What about ending the “alchemy” of fiat money and fractional banking? King advocated a system separating 100-percent-reserve-backed “narrow” banks from risky and illiquid wide banks, using bank assets (loans) pre-pledged as collateral at suitable discounts, such that central banks would become “pawnbrokers” of last resort, rather than lenders of last resort. Does it matter for purposes of panic prevention that that pawnbrokers are just another kind of lender? Such is the alchemy of words.

Meanwhile, The Money Problem: Rethinking Financial Regulation (University of  Chicago, 2016), by Morgan Ricks, of Vanderbilt Law School, contains another set of proposals that deserve attention.  By emphasizing the ways in which legislative charter value can rein in on bankers’ appetite for risk, it takes the opposite tack from the emphasis on higher capital requirements THAT has occupied most of regulators’ and legislators’ attention until recently.

After a week of thinking it over, thanks to the WSJ series, EP concluded that it should simply stick with the economics angle, even though it recognizes that change comes from all sorts of other directions as well. That means turning next week to a couple of recent papers now making the rounds, The History and Economics of Safe Assets, by Gary Gorton, of Yale University’s School of Management;  and The Safety Trap, by Ricardo Caballero, of the Massachusetts Institute of Technology, and Emmanuel Farhi, of Harvard University. The banking system was badly damaged by the crisis.  It remains ill-understood.

So much for the existential crisis stalking EP.