...
This is, in its essence, the question Mervyn King, governor of the Bank of England, was addressing in his controversial speech this week. His answer: break up the banks into “utilities” and “casinos” The former would be safe. The latter would live and die in the market.
This is, in its essence, the question Mervyn King, governor of the Bank of England, was addressing in his controversial speech this week. His answer: break up the banks into “utilities” and “casinos” The former would be safe. The latter would live and die in the market.
.
Both Alistair Darling, the UK’s chancellor of the exchequer, and Gordon Brown, the prime minister, promptly slapped Mr King down, arguing that this division does not work: Northern Rock, a utility mortgage-lender, failed, while the collapse of Lehman Brothers, evidently a casino, led to the most expensive financial rescue yet. This, they argue, is a misdirected remedy: the distinction between utility and casino either cannot be drawn or, if it can, does not coincide with the distinction between what has to be safe and what need not be. Yet it is evident why this distinction is appealing. If we define the utility parts of the financial system narrowly, as management of the payment system, it works like clockwork. It is in the management of risk (and the advice given to its clients) that the financial system fails. The limited liability businesses at the heart of our credit-based monetary system have a tendency to mismanage risk (and uncertainty), with devastating results.
Over time, the policy response has been to cushion their creditors from the consequences. But this effort to make the system safer has made it ever more dangerous. Today, as a result of this last crisis, we see, at the core of the system, behemoths whose creditors know they are too significant to fail. As Mr King, remarked, “the massive support extended to the banking sector around the world, while necessary to avert economic disaster, has created possibly the biggest moral hazard in history. The ‘too important to fail’ problem is too important to ignore.”
Mr King raises the right issue. He is justified in doing so, even if it makes politicians uncomfortable. Indeed, he is justified, because it makes politicians uncomfortable. I agree with him, too, that the two alternatives are either to make institutions that are “too important to fail” too good to do so or to be able to fail any institution, even in a crisis. If we do not achieve one of these, further crises are inevitable.
Both Alistair Darling, the UK’s chancellor of the exchequer, and Gordon Brown, the prime minister, promptly slapped Mr King down, arguing that this division does not work: Northern Rock, a utility mortgage-lender, failed, while the collapse of Lehman Brothers, evidently a casino, led to the most expensive financial rescue yet. This, they argue, is a misdirected remedy: the distinction between utility and casino either cannot be drawn or, if it can, does not coincide with the distinction between what has to be safe and what need not be. Yet it is evident why this distinction is appealing. If we define the utility parts of the financial system narrowly, as management of the payment system, it works like clockwork. It is in the management of risk (and the advice given to its clients) that the financial system fails. The limited liability businesses at the heart of our credit-based monetary system have a tendency to mismanage risk (and uncertainty), with devastating results.
Over time, the policy response has been to cushion their creditors from the consequences. But this effort to make the system safer has made it ever more dangerous. Today, as a result of this last crisis, we see, at the core of the system, behemoths whose creditors know they are too significant to fail. As Mr King, remarked, “the massive support extended to the banking sector around the world, while necessary to avert economic disaster, has created possibly the biggest moral hazard in history. The ‘too important to fail’ problem is too important to ignore.”
Mr King raises the right issue. He is justified in doing so, even if it makes politicians uncomfortable. Indeed, he is justified, because it makes politicians uncomfortable. I agree with him, too, that the two alternatives are either to make institutions that are “too important to fail” too good to do so or to be able to fail any institution, even in a crisis. If we do not achieve one of these, further crises are inevitable.
No comments:
Post a Comment