This graphic from J P Morgan is pretty mindblowing, especially since it appears the banks have been confused/lying about how much money they’ve lost and the situation is probably even worse than it appears here. The Royal Bank of Scotland does still have value in the market – look for the tiny little dot at the bottom of their Q7 cap.
I’d be curious to know if there’s a serious neo-liberal suggestion as to what to do here. I assume free-marketers are opposed to constantly bailing out the banks and dead-set against nationalising them, and I know some of the libertarian/ACT crowd keep pleading for governments to just let the banking system fail (because that worked out SO well in the 1920′s), but I haven’t yet heard a serious free-market solution for the current crisis. Is there one?
There’s an interesting conversation here with Nasim Taleb, who was on Charlie Rose a couple of weeks ago. One idea that stood out for me as he postulated about ‘Capitalism 2.0′ was this:
It will be very different. Number one, banks will be utility companies, because we no longer will tolerate privatizing the gains and socializing the losses anymore. If you and I are going to bear the losses of bankers, we don’t want to pay them bonuses for five or six or seven years, and then bail them out. No more of that. Banks are going to converge with utility companies, because if you go to Detroit or LA you want to be able to get cash from a cash machine. It’s a utility.
Taleb expressed similar ideas in an interview with Time:
I think that we’ve got to progressively become a society where banks are deemed to be too precious for us, for our currency, to take too much risk. We need to have a banker who is just as responsible as someone working for the water company. Banks are going to become a utility. And banks probably will not have a lot on their balance sheet, and the risks taken will be borne by individuals like myself who have capital, and who know the risks, with their own money. Otherwise you’re going to keep having a cycle that’s deeper every time.
I think Taleb is right, but that this is something we are going to evolve towards, with additional levels of regulation and oversight piled onto the banks with each round of market failures. This system will have its own problems, inefficiences and unintended consequences but it can’t be much worse than the ‘once in a century crisis’ that wipe out the banks every decade or so.
Danyl: “because that worked out SO well in the 1920’s”
Utter nonsense Danny. We don’t have a free market according to the dictionary definition of the word free. We have a FED, financial companies are among the most regulated, and everyone knew they were going to be bailed out, so it didn’t really matter what you would do.
This is socialism, and socialism may solve it their way: by bankrupting everyone. Good luck.
“we no longer will tolerate privatizing the gains and socializing the losses anymore.” We’re doing that all the time with state companies, don’t we? The entire government, eating up 50% of the GDP in NZ isn’t doing exactly this? And we’re not tolerating this by making everything even more socialist, i.e. by abolishing the gains???
North Korea must be heaven. No banks, no socializing the losses.
No Danyl, we live in a socialist/capitalist mix, and one of them will give.
Danyl: ‘once in a century crisis’: yeah, crisis, another word socialists love. It’s not a crisis if you fail if you run your business badly. That’s to be expected.
This whole mess was predicted. We know exactly why this happens. But let’s just repeat what they did in the 20s/30s, that worked so well.
One last remark on this: “Banks are going to converge with utility companies, because if you go to Detroit or LA you want to be able to get cash from a cash machine. It’s a utility.”
Yeah, they already have that in Zimbabwe, right? If I want cash, a machine just prints it for me. Even the fact that you quote utter idiots like this is already so embarrassing. Lack of cash is a real crisis. We all have experienced it. Governments must do something! Just make sure that everyone always and everywhere just gets all the cash they need.
Sad, sad, sad.
Anyway, your side broke it, your side may fix it.
Comment by Berend de Boer — January 22, 2009 @ 8:28 pm
No Danyl, we live in a socialist/capitalist mix, and one of them will give.
Yeah, that’s what people were saying 100 years ago, except back then the CW was that capitalism would give way to socialist utopia. That didn’t work out, so now a quickly diminishing number of people are betting on pure capitalism.
Back in reality it looks as if we’re stuck with a mixed economy, and that barring a better idea the next few hundred years of economic history will be about getting the balance right.
Comment by danylmc — January 22, 2009 @ 8:35 pm
I had always suspected that Berend was taking the piss, but that post where he pretends to think that cash machines print money confirmed it.
Comment by Helenalex — January 22, 2009 @ 9:17 pm
Nice graphs. I like the way the market looks at these companies and decides on a price for them. Those free-market price signals are useful!
Tell me, why won’t socialists engage on the argument that gummints/central bankers are responsible for the credit-fuelled boom/bubble which has now busted/burst? How? Lax monetary policy and massive budget deficits (Europe & US, I’m looking at you). Although NZ didn’t go in for the deficits, monetary policy was a bit lax: a rising dollar help make it LOOK like inflation was under control by ensuring our imports got cheaper and cheaper. This stopped working when the oil price shot up faster than our currency. And local body rates just kept going up and up. When a gummint boosts gdp by taking money off some people and giving to (or spending in on) others, there is no wealth created. This just goes to show we need to look at more than just raw gdp to see if we are getting richer. That’s why righties and libertarians harp on about gummint spending as a % of gdp: the higher it is, the more shit it is. Wealth (goods and services for the people to enjoy & consume) is created in the private sector.
Sure, there has been greed and theft in the private sector, but that is there in good times and bad, it’s just that when EVERYTHING goes bad, it’s hard for those in the private sector to hide it!
Comment by Clunking Fist — January 22, 2009 @ 9:20 pm
1. Raise OCR to 8%+.
2. Slash corporate and personal taxes to 10%.
3. Allow 100% tax write-offs for new company investments.
Reducing taxes will offset the costs of borrowing from having a high OCR. A high OCR will flood the country with money allowing lending and investment. The loss to exporters is offset by reducing taxes to 10%. The loss to mortgage holders is offset by reducing tax to 10%. The import imbalance as a result of a high dollar (caused by high interest rates) will be a problem to an extent but the cheap imports will encourage consumer spending saving the retailers. Petrol will be cheap enabling cost savings.
There will not be a drop in government revenue. Lower taxes and a high OCR will actually bring about an increase in revenue. At the rate we are going now, there won’t be any corporate profits to tax. 10% corporate tax of some profit is a whole lot better than 30% of nothing (that is not even taking into account the increase in personal income tax receipts from all the new jobs that the companies create). In the long run, profitable and growing companies will produce a lot more total revenue to the government than today’s 30% corporate tax rate.
Taxes can be increased when the economy turns around – in about 7-10 years.
With the jobs created by this, including government infrastructure spending, there will be a reduction in the welfare bill.
Japan had interest rates at zero for 12 years + and it didn’t work to revive its economy. It won’t work to revive ours as long as there is no confidence.
Comment by Gooner — January 22, 2009 @ 9:59 pm
Daynyl: Back in reality it looks as if we’re stuck with a mixed economy
Thanks Danyl for confirming that we’re not living in a free market economy. We live in an economy where you can scam everyone and then the government will bail you out. What’s the balance going to be? Only bail out those who voted for the party in power?
Comment by Berend de Boer — January 22, 2009 @ 10:17 pm
Gooner, I’m betting we’re gonna try something new this time: less than zero interest rate. We’re going to give away cash. Mark my words.
Comment by Berend de Boer — January 22, 2009 @ 10:20 pm
Thanks Danyl for confirming that we’re not living in a free market economy.
Nobody has, or has had, a real free market economy – just as nobody ever pulled off a perfect communist state. But according to the Wall Street Journal New Zealand is fifth highest in the world in terms of economic freedom.
Iceland used to be even higher than we are, but they’ve started regulating their economy again now that their free market reforms have bought them to the point where their currency is literally worthless, unemployment is through the roof and people are rioting in the streets.
Comment by danylmc — January 23, 2009 @ 4:29 am
While I would class myself as right-wing in economic matters (some of my wife’s friends might use stronger words), the simple-mindedness of the “moral hazard” argument against bailing out the banks, constantly annoys me.
I have worked in and for wholesale banks for over ten years. The apparently stupidity and negligence of bankers has nothing to do with any assumption that the government will bail them out. Why should it? It’s not *their* money, it’s the shareholders’. They (the bankers) make their money through bonuses which are not tied to the long-term successes of the positions they establish and the deals they broker. When times are good they do very well, when they’re bad, they *might* be out of work for a little. I was in London when Lehman Brothers folded. The ink wasn’t dry in the newspapers before their top dealers were fielding phone calls offering them jobs.
Berend. This is why regulation is necessary. Because you’re right, there *is* a moral hazard. It’s just caused by something other than government bail outs.
Comment by Mark — January 23, 2009 @ 8:03 am
Mark, companies go bust all the time. Big deal. That’s part of the free market. You cannot have a free market if you cannot fail. And we had enough regulation. And the government banks like Freddy Mac and Fannie Mae had special regulators!
Mark, if you have capitalism, you have failures. Gains and losses. That’s the system. But you get depressions if you have governments, federal reserve banks, fiat money, fractional banking, and all the stuff socialists love.
Comment by Berend de Boer — January 23, 2009 @ 9:01 am
i swear to god… while all this finger-pointing at “socialists” goes on, you’re ignoring that the government under which this all went to hell was the US one, under a right-winger.
this is a US-caused problem, because REGULATIONS WERE RELAXED, ALLOWING BANKS TO OVER-EXTEND THEMSELVES.
you muppets.
Comment by Che Tibby — January 23, 2009 @ 9:24 am
As far as I understand, one of the reasons that the bank problems in NZ and Aussie are different from the UK and the US is that our reserve banks actually enforce international capital adequacy requirements. Thus our problem is the difficulty of little banks at the bottom of the world getting international credit, rather than having no assets. The US and the UK were signatories to Basel II, but simply didn’t enforce said capital adequacy requirements. Thus there banks were leveraged up the arse and, shock, fell over when people couldn’t pay the shitty loans they’d approved. Restructured regulation is one way to go about this, but actually enforcing agreed upon principles would be a decent start, too.
Comment by Eddie Clark — January 23, 2009 @ 9:31 am
As usual the truth lies somewhere in between.
What happen (some generalisation in this) was that through the 90′s and 2000′s the developing world moved to a lower average rate of inflation, partly due to productivity improvement and partly due to China entering the global market.
Inflation is the same as a tax or a rise in the OCR, therefore lower inflation increased returns to business and the public. Over time the increased cashflow stream was used for borrowing/investment in three types of activity;
a)hedge borrowing – where all payments can be meet by cashfolw. Generally this is a first home borrower at max 3-4 times income.
b)Speculative borrowers – where borrower/investor can meet interest payments, but must rely on debt constantly being rolled over.
c)Ponzi borrower – borrower/investor can repay neither interest or orginal debt but are reliant on appreciation of value to refinance debt.
Over a stable period of time with good cashflow (the low inflation factor) the economy changes with more people moving from hedge to speculative (asset price now 6-7 times income), and speculative move to being Ponzi – time shave been good so people leverage more.
What is different this time was prolonged stability (asian crisis, ltcm and dotcom never stopped the party in EU and US),leverage that was obtainable by financial institutions through CDO’s funded by a glut of cash sloshing around the world (impact of sovereign wealth funds, petro-dollars, pension funds etc all looking for something to invest in).
Home owners enjoyed the ride, some payed down but more than a view withdrew equity to fund lifestyle, meaning more moved from hedge to speculative and ponzi grade.
Asset bubble finally collapses when enough new home buyers said “shit – 9 times income, no way, i’ll just rent for a bit longer”.
There event was aided and abetted by governments and individuals, but there is enough blame I think for everyone.
So final verdict is a lose/lose to socialist and capitalist as both obeyed there own particular incentives to shoot themselves in the foot.
I worry about the direction of regulatory response towards treating banking as a utility, because we can see that generates incentives towards monopolies with all the related problems. If this does happen expect to see a rush of consolidation in the finance sector as the biggest will be able to scoop up regulatory rents and supranormal profits. It then also enhances game playing by the largest “survivor” on the basis of being to big to fail.
I posit that future regulation will be to rely less on the ‘quants’ for assessing risk, the numbers can lie to you. More oversight by regulators, some consolidation due to need to improve balance sheets, some asset write off, making us all a bit sorry but perhaps wiser in our investment decisions.
Role for government to monitor level of consolidation to ensure there is effective competition and that there is numerous institutions so that on occassion one can fail -need to allow the people to remember that life does have risk.
Comment by What would Hayek say — January 23, 2009 @ 9:56 am
Addendum – innovation via CDO’s increased the leverage accessable by players. So from a regulatory response, if you can find a cure for innovation then future problems will be solved.
Given the ingenuity of people, I suspect we should be seeing a new bubble form in a different sector of the economy within the next 5 years.
This is not be all doom and gloom, some good does come from the innovatin, dotcom hurt but the innovations still bring us a lot of benefits and will do for a long time to come.
Since this was a social party, we could try and see any response by the market and government as being about managing the downside from our overdose on uppers and bubbly.
Comment by What would Hayek say — January 23, 2009 @ 10:10 am
For once I agree, mostly, with What would Hayek say.
What scared me was seeing shares rise, continually, over the last 8 years. Things don’t just grow at exponential rates – it is unsustainable.
That ‘extra value’ being created has to come from somewhere. Either the real economy is increasing at that rate, or the difference is being covered by unsecured debt, which has to be paid back at some time, at which point the whole system contracts to a level it can handle again. Of course, when there is a housing bubble, we have a false perception of the size of those securities…
A year ago, when I said these things, I was dismissed, and told that there was nothing to worry about.
Comment by George — January 23, 2009 @ 12:41 pm
yup. massive inflation in the value of unsold properties.
anyone want a share in tulip futures?
berend? you’re just the sort of buyer we need.
Comment by Che Tibby — January 23, 2009 @ 1:04 pm
Um… it’s probly worth pointing out that those graphs are misleading and make the falls look 4 times as big as they actually are. The areas of the circles should be proportional to the market cap, not the diameter/height as it is there.
E.g. JP Morgan falling from $165Bn to $85Bn has halved in value, but the graph makes it look like it’s lost three quarters.
It’s a pretty standard trick used to exaggerate a point. Why they thought they needed to bother though I have no idea, it’d look bad enough even if it was legit.
Comment by gazzaj — January 23, 2009 @ 6:00 pm
I’m with gazzaj, your graph is shit. The area of a circle is a square of the radius and the green and blue circles in no way represent the numbers shown.
Danyl, big boo from those of us who understand math.
Comment by ieuan — January 23, 2009 @ 9:06 pm
I’m with gazzaj, your graph is shit. The area of a circle is a square of the radius and the green and blue circles in no way represent the numbers shown.
area = πr2; I got GIMP to draw a couple of the circles based on the numbers and they look basically identical to the ones on the chart.
Comment by Danyl Mclauchlan — January 24, 2009 @ 10:09 am
area = pi*r*r is exactly the point.
The graphs look like you’re using the radius (r) to represent the numbers. The resulting areas therefore magnify the effect. If you want to insist on using circles (generally a bad a idea for clear communication of the numbers, although not as bad as pie-charts), then you should take the square root of the numbers and enter that as the radius.
Comment by Mark — January 24, 2009 @ 1:06 pm
OFHEO’s mission is to promote housing and a strong national housing finance system by ensuring the safety and soundness of Fannie Mae (Federal National Mortgage Association) and Freddie Mac (Federal Home Loan Mortgage Corporation).
http://www.ofheo.gov/about.aspx?Nav=55
Set up by Congress 1992 annual budget US$65 million employs 200 staff. Government oversight abject failure been there done that.
If the banks are not allowed to go under the government should force the banks to convert bank debt (ie Deposits) to equity.
Comment by Simon — January 24, 2009 @ 5:22 pm
We all know what economists were taking by surprise and what economists predicted this mess. Maybe we should listen to the guys who don’t think that government regulation and spending will help.
On regulation: after Enron we got a lot of additional regulation. Didn’t seem to help.
Comment by Berend de Boer — January 24, 2009 @ 8:05 pm
Very interesting post on why more regulatinos won’t work: http://clusterstock.alleyinsider.com/2009/1/comment-of-the-day-the-regulatory-fallacy:
believe this to be systemic, i.e., Wall St. will always be one step ahead of the regulators because of massive compensation disparities. New regulations are sure to close down some of the more egregious practices that created the most recent bubble (changes to bond rating practices, for example). But it’s nothing more than slamming the barn door when the horses are already gone.
We can safely assume that regulatory changes ensure that will not have another Internet bubble or another Subprime bubble. We can also safely assume that we will get a brand-new, different bubble because history has shown that when there is a huge amount of money in cash and treasuries just sitting on the sidelines, it will find somewhere to go. And when the financial technology is created to amplify and leverage that bubble, the regulatory agencies will be no more interested in restraining it than they were in previous bubbles.
Comment by Berend de Boer — January 24, 2009 @ 8:07 pm
Funny how the Bank of America and Merrill Lynch are not in the graph.
And while you are at it you might want to watch these to video’s: Money as debt and Money masters the first one about how money is created and the second one about the history of the privately owned Federal Reserve of new York and the equally privately owned Central banking system.
Oh, by the way John Key was one of only four upon invitation only advisors to the Federal Reserve of New York, just when the Glass Steagall act was revoked.
That was the act which kept the speculators separated from the commercial banks and opened the door for the speculative Tsunami now destroying our economies.
Comment by travellerev — January 30, 2009 @ 9:45 am