Saturday, September 27, 2008

US bailout makes sense

The idea of letting bankers escape the consequences of their own folly leaves a bad taste, especially if the bailout is provided from public funds. Some people are dead against it, others have doubts, and the point is made that other businesses are allowed to go to the wall, why not banks? The answer is another question: do you have a bank account? As the answer is almost certainly yes then you can see the problem. If a carmaker or a retailer or an estate agent goes under then it can be very bad, but the damage is limited, at least on the national scale. If a bank goes under it can be catastrophic for a wide swathe of the country. That means people in fear for their savings, business denied the capital they need to survive, mortgages climbing to punitive rates and the very mechanisms by which the commerce on which we all depend getting done under threat. So banks, popular or not, have such an important role in a modern society that letting them crash is like refusing to put out a fire in your house just because the person you live with started it.

The thing is that the actual malpractice at the root of all this belongs to only a limited number of players in the world financial system. Some banks in the US invented a thing called the NINJA loan, which stands for 'no income, no job, no assets'. This is a loan product for people who have no prospect of paying it back, and yes, this is as bonkers as it sounds. You can do this sort of business in a rising property market because if the victim defaults, and they do in droves, you just reposses and sell on into a rising market. These mortages were securitised, sold on, and, well, you know the rest. There were some UK near-equivalents in the Northern Rock 125% 'Together' mortgage, but nothing nearly so bad. Most banks have been caught out be the problems in the Money Markets, not by bad loans, at least not to the point that they will fail. So, a bailout makes sense, and it doesn't even mean that most of those getting it are undeserving.

We do need better regulation though. Unfortunately, most of the horses are long gone.

Sunday, September 21, 2008

It's not greed

Lots of soul searching in the Sunday papers about the current crisis in the world's markets. In particular there is a lot of railing against 'greed' as the prime cause of everyone's woes. Well, that allows journalists to get on their moral high horses and to preach to a willing congregation of readers who, let's face it, never liked bankers anyway. The problem is that is rubbish. Greed is a fairly basic human trait and has featured in at least some aspects of business since time immemorial. Or are we really saying that particular vice was invented at the same time as short selling? Assigning the present difficulties to greed is lazy journalism and lazy politics and there has been plenty of both.

The actual problem is not greed, it is complexity, and it is complexity that people mistakenly thought could be managed by computers. Modern IT systems can manipulate data by the terabyte and in a mass of the most complex algorithms, far beyond the scope of general understanding, to the point where only a few backroom experts really know what is going on. Now that is fine for some things, not everyone needs to understand exactly how that reactor core is kept stable or that satellite is kept on station. People do need to understand products in a market though, if they are going to make intelligent decisons about them, and this is where it all went wrong. Financial instruments were packaged and securitised and hedged against in a multiplicity of ways so that there was no intuitive understanding, even by the people who traded in them. It didn't matter though, because the underlying asset values, primarily domestic and commerical property, kept going up in value. Understanding risk is not important when in the short term there isn't any. We all know what happened next: asset values started to fall, because they are cyclic and they always do eventually. Then understanding risk was suddenly very important, and no-one did. The rest, as they say, is history.

It wasn't greed, it was plain old stupidity, the same old stupidity that comes periodically from people trying to adapt to a changing world. And adapt we must, learning the lessons, making the changes and so on. We have had a colossal failure of banking and banking regulation, because for this to have happened very large numbers of people must have nodded and smiled and looked the other way when some of them were actually paid to ask very hard questions instead. That has to change, but it must be remembered that the reaction to the last broadly similar convulsion of the financial sector in 1929 was so wrong-headed that it led to the Great Depresson, fascism, World War Two and the Cold War. We need decent leadership and a regulatory framework that does not crush the market's ability to create wealth, because if economic growth goes into prolonged reverse then the political downsides are too awful to contemplate. So, let's hear less moralistic sound-bites about greed eh? This is just a little too serious for posturing to be the only response.