Monday, October 13, 2008

Nationalising banks or boosting their liquidity & restoring trust

John Quiggin seems enthusiastic about the prospects for more 'utopian' society with government-controlled major banks.  As much as I am deeply concerned with the very recent claims of imminent global financial peril I do not share his enthusiasm for this at all. Governments might well wish shore up the capital base of large banks in Europe or the US by subscribing to equity (voting or non-voting) but this should be sold down ASAP. 

By the way the mad Green Left have launched their own campaign to nationalise the Australian banks.  It is a confused proposal that fails to see the lack of competition between the Australian banks as the reason for their high profits and poor performance.   While I agree with some of these criticisms it must be acknowledged that they are at present solvent! No small issue in current dangerous times.

Gary Becker has useful things to say on the public ownership issue.  The issue is to provide liquidity and to bolster trust. The idea of pollies - of the Kevin Rudd type - having a management say on which major private sector projects get funded in our type of society (green cars, water efficiency schemes) is not something we should think about for a minute.

By the way, Willem Buiter is scathing on the verbiage coming out of the IMF. He has to my mind a more down-to-earth and sensible approach to resolving the crisis of confidence that is currently threatened to bring the world financial system completely to its knees :
(1) Public guarantees of interbank lending between banks in different national jurisdictions. This could be implemented by national central banks acting as counterparty of last resort in the (unsecured) interbank markets.

(2) International agreement on limits on public guarantees for other bank liabilies and for liabilities of other highly leveraged institutions. This includes agreements on terms and conditions attached to such guarantees.

(3) International agreement on recapitalisation of banks with significant cross-border activities.

(4) Fiscal bail-outs of countries whose systemically important banks have a solvency gap that exceed the government’s fiscal capacity.

(5) International agreement on mandatory debt-to-equity conversions for banks and other highly leveraged institutions.

(6) International agreement on avoiding a moral hazard race to the bottom for deposit insurance through limits on deposit insurance (this is really as special case of (2)).

(7) International agreement on common access rules and common methods for valuing illiquid assets in different national TARP-like structures.

(8) International agreement to adhere rigorously to mark-to-market accounting and reporting principles and on common rules for relaxing regulatory requirements attached to marked-to-market valuations.
John Quiggin is also keen on 100% deposit insurance schemes of the type just announced by Kevin Rudd.  My presumption is that this is primarily directed at stopping runs on small non-bank lenders in Australia should there be a 'rush to quality'.  Of course for the moral hazard reasons mentioned by Buiter this should - at best - be a short-term measure.  It has the negative feature of drawing attention to the fact that deposits are not in fact guaranteed - many Australians do not know this - and raises explicitly the prospect that perhaps these institutions are threatened. Note that, significantly the Rudd scheme also apparently includes a guarantee on interbank lending which is one of the sensible points on Buiter's list. This will restore trust and encourage lending that will free up paralysed capital markets.


conrad said...

I was under the impression that many of the smaller European countries (and a few others too) actually had such a large international banking sector that government guarantees may be useless in many cases -- so whilst Australia might do it, can other countries really do the same?

A quick search of just ING, for example, shows it has 800 billion of assets (more than the total Australian pool). If, for example, they lost 25% of them (which I imagine would make other Dutch banks collapse), would/could the the Dutch government really come up with hundreds of billions to repay people? Even if they did, it seems to me that they are essentially cursing generations to come. I believe the same is true for Ireland, which already has such a guarantee.

On this note, I think that people bet against countries like Thailand that also had a huge stockpile of money in the Asian financial crisis, and I don't see why they wouldn't bet against some of these smaller countries, so it's not clear to me how worthwhile these guarantees really are.

ehj2 said...

I don't find John Quiggon to be an idealist, and think calling him a utopian is a bit of an ad hominem attack.

I need to ask, on what scale of failure of the markets will it take to persuade you that capitalism is inherently dangerous (and demonstrates this repetitively), and that people need to be protected by their governments from capitalism's core tendency to completely self destruct?

If you had just retired, and, as a prudent investor, pulled all your investments from wall street and cashed out to a bank so you could enjoy your remaining years in some peace -- how would you really feel if your bank just vanished?

I would prefer that we regulate our banks so that they can't fail, guarantee bank deposits, and have a firewall between deposit banks and investment houses and the casino of wall street.

As an engineer, I know if I put water in a pipe or push electrons into a wire, these substances really are "somewhere" and I can guarantee them.

I'm sorry if I sound frustrated here, but if economists really can't design a banking system that knows where money is and can guarantee it to be there, then they really don't understand what money is and should stop being so adamant about how "sound" it is and market fundamentals.

Francis Xavier Holden said...

That post came close to praising Rudd and you didn't mention how John Howard would have been better.

Harry - are you well?

jc said...


Out of curiosity why would you be listening to Quiggin about anything to do with the current goings on? And why would you distinguish between Green Left Weekly and Quiggin's intellectual vandalism of economics?

Quiggin has nothing to offer other than tearing up economics in attempt push his far left intellectual barrow. furthermore he hasn't shown the slightest possibility he evens understands it.

Anonymous said...

Like it or not, the UK banking system has been nationalised. Barclays is the only bank of any substance that stands alone, and we'll see how long they last.

Perhaps it is just as well that Margaret Thatcher has dementia and probably can't comprehend what is happening. The Thatcher Revolution turned out to be less of a revolution and more blip, soon (in historical terms) to be undone.

Them's the breaks.

The major lesson from all of this is that at times of real crisis, only the state can save the day, because only the state can force people to do things (like paying taxes) and can forcibly stop people from doing things.

What would have happened if the infants at Catallaxy had been in charge and decreed "let the markets sort it out"? We would have been left with no financial system and a world depression for a decade or longer.

davidp said...

More detailed arguments are required to justify government moving beyond guaranteeing deposits/lowering interest rates and the sort of regulatory interventions listed above, and moving into ownership.

One of the problems at the heart of the current problem is the failure of shareholders or even management of the financial institutions to monitor what was going on.

There is no obvious reason why this problem is overcome with nationalization. Indeed the failure of the State Bank of Victoria (and other state banks?) in times when financial management was almost surely simpler suggests that monitoring problems are not overcome with state ownership.

hc said...


'Quiggin has nothing to offer other than tearing up economics in attempt push his far left intellectual barrow. furthermore he hasn't shown the slightest possibility he evens understands it'.

Disagree. John is smart enough and worthy enough of respect to warrant a rebuttal.

hc said...


I've tried to make it clear that I don't want my blog being used to launch attacks on others. Particularly systematic attacks that seem designed to get at someone.

I'd prefer all commenters to stick to issues not people.

Sir Henry Casingbroke said...

It seems that bank nationalisation has worked - for the time being. Nobel winning economist Paul Krugman has highly praised British PM Gordon Brown's move to partially privatise banks.

Ehj2 is absolutely correct in saying that there must be a draw bridge and a moat between the real economy and the speculative one floating on funny money. The latter one, with its 40 times earnings ratios and ludicrous bouts of speculative hysteria will suck out liquidity out of the real one, like when punters suddenly realise they are standing on thin air - you know, like in the roadrunner and coyote cartoons.

Quiggin has been right, all along. It was Quiggin who suggested a guarantee only $20k was lunacy because it would have the opposite effect to the one intended. Quiggin suggested a total guarantee and it was as if Rudd's advisors were reading his blog because within two days his suggestion was taken up.

Giving taxpayers' money to banks without taking up bank equity and thus some measure of control is naive if not insane.

Government-owned banks or partially govt owned banks even, will probably curtail the percentages of margin call lending, or abandon the practice altogether and this will go a long way to put a barrier between speculative economy and the liquidity of the real one.

I predict now that you will see a New Deal type of prime pumping and abandonment of the laissez faire market economics. Markets were rigged anyway, and to pretend otherwise is like pretending that Olympics level sport is free of performance enhancing drugs.

Kyla said...

Professor Clarke,

We from the La Trobe Uni Socialist Alternative club have been keenly following the world financial crisis and have been reading your blog with some interest.

We would like to challenge you to a debate on campus on either of the following questions of your choice:
'Was Marx right about capitalism?' or 'Has free market economics failed?' in which we would argue the affirmative.

The date we would propose is Wednesday 22 October at 1pm.
However we are also open to holding the debate at lunchtime of Monday or Tuesday next week.

Please contact us asap to confirm.
Chris Stueven
Education Officer, La Trobe SRC
Socialist Alternative

jc said...

Not for nothing harry, but you brought Quiggin in the first place.

Any reason your being selective?

I mean you bring up his arguments and then don't expect people to respond who disagree with him.

hc said...

No JC that is wrong.

John is an economics colleague and a friend of mine.

You seem to want to pursue a campaign against John and I don't think that is justified. You certainly cannot do it here.

Using my blog to engage in a program of denigrating someone is not on. I don't want to have to make vthis point again.

jc said...


Let me remind you that you brought him up. The comments section, unless I'm mistaken, is meant to encourage discussion which is what i have done: on topic.

So lets go to the more substantial criticism.

Quiggin supports the increase in bank deposit insurance, which by any account is quite possibly the stupidest thing any government could do (and for any economist to support). Ask him to explain how this doesn't further aggravate moral hazard. Why would any depositor look for security rather than the highest rates from the riskiest bank?

By supporting the insurance plan one is more or less arguing that we should ignore risk stratification.

Quiggin also argued against the US equity infusion plan because unlike the UK the US will not require a seat on the board. How on earth can anyone support the UK plan unless there there is Utopian agenda to turn the banking sysem into a social policy racket like Fred and Fan?

I don't have any campaign against anyone, Harry. Suggesting I may not like him has really nothing to do with it. On the whole I simply feel his views are left wanting.

Would you prefer that i lied from now on and agreed with him? Would that be a better solution?

sir henry casingbroke said...

And I certainly do not share the enthusiasm for further boosting the absurd overvaluing of residential property by the absurd gifts to first home buyers etcetera. This is quite counterproductive and even verging on insane. It certainly distorts the real economy and it is distorted as it is.

hc said...

I agree Jack this scheme is dumb. It does nothing to improve 'affordability' but drives up prices.

jc said...

Let me agree with him harry;

1. I agree that we should use the opportunity in the current market crisis to nationalize large parts of the economy to promote leftist social policy rather than attempt to thwart a material credit crisis through temporary capital infusions.
2. I agree that raising deposit insurance is a good thing and we should ignore moral hazard resulting form the lack of risk stratification.
3. This of course makes a mockery of my/our earlier criticism directed against the rating agencies and their risk analysis seeing that I believe that all risk carries equal weight.
4. I agree that the responsibility for the credit crisis is borne by the Bush Administration for no other reason than to try and score political points and it makes me look good in front of my lefty mates.
5. I agree that rather than pressing ahead when Paulson announced the package the President should have fired him and congress should have voted against the package and waited until after the elections.
6. I agree that we should remain silent to the fact that if they had waited the entire US global system would have been smoked.
7. I agree we should immediately support the UK package without a moments thought and then criticize the Bush Administration for going too slow and worsening the situation ignoring the earlier suggestion to wait until the new government is elected in the US.
8. I agree that France has equally as much economic potential as the US and that the US unemployment rate is disguised by large numbers of prison inmates. In doing this comparison I will ignore that we aren’t really comparing like with like seeing the US is now going though a cyclical downtown and has produced several million jobs while France has produced negative jobs over the past 15 years. I will also ignore the fact that France also has prison inmates and that the US job machine has been able to absorb 11 million illegal immigrants over the past 15 years.
9. I agree that the housing glut problem was a market failure despite the fact that even the Economist this week cited several University researchers from Columbia suggesting the problem was primarily caused by interventionist social policy through Fred and Fannie through market distortions.
10. I too am jumping with glee that this is the time we social democrats can seize the moment and create utopia on earth through lies and distortions or simply pure ignorance.
11. I agree that the recently announced Federal government package is a much better choice than accelerated depreciation allowances and corporate tax cuts that would help spur investment and new jobs.
12. I agree that we should ignore loose monetary policy and regulation having played a huge part in this crisis while ignoring market forces at our peril

That’s just a few things I agree with, Harry, seeing you only want people to agree from now on.

John Hasenkam said...

'm sorry if I sound frustrated here, but if economists really can't design a banking system that knows where money is and can guarantee it to be there, then they really don't understand what money is and should stop being so adamant about how "sound" it is and market fundamentals.

But by free market orthodoxy that is exactly what should not be done: don't design anything, the market will sort it out. It is silly, but until a few weeks ago that is how many thought. I don't think we can even make reference to "systems" in all this, it is more an assemblage of devices with no-one central designer. That is the essence of free markets and I find it bizarre. It is like trusting a blind man to lead you to a promised land. You have no idea how he will get you there and worse still, neither does he.