|
 |
Farewell, lender of Last Resort |
|
Commentary No. 350
We’ve come to the end of a long cycle. It’s the finish for the period when the lender of last resort was always there to stop us going over the edge of the cliff. It all began about 150 years ago. Banks in those days had a nasty habit of going bust. As they did so they spread enormous ruin around them. The Victorians in general and Bagehot in particular decided there had to be a better way. As the problem was mainly about liquidity they thought up the idea of installing a buffer to prevent the system generating these disasters. It was the invention of the lender of last resort. He would always be there to prevent the disasters occurring.
The point was that the Bank of England had sufficient prestige that it could fulfil this role. When London was the virtual centre of the global financial world, the system worked. Barings at the turn of the previous century were saved. It was thanks to the Governor and to Rothschilds that the rescue was successful. Nearly a century later Barings got into trouble again but this time failed. That was because London’s power had been loosened. Instead of independent banks, the only institutions the Governor could turn to were the branches of overseas banks who were responsible to their Boards of Directors and to Regulators back home.
Then came the big crisis which we’re still in. This has proved to be far too big for any lender of last resort. But the banks that were in danger of failing had also become far too big for any existing institution to rescue. The crisis has been like a tsunami washing over everything. The trouble has been that in this modern world the need for a lender of last resort has been just as great as it was 150 years ago. If not greater. Yet the power of those who have been running the global financial system has just not kept up with the growth in the vulnerability of the banking system.
There’s been nothing for it other than the ultimate stopping point of Governments themselves. They’ve had to step into the breech. Otherwise it would have been the end of global finance, as we know it. The rescue duly took place. We don’t yet know how much it is going to cost. But the reasoning is, whatever that figure works out to be, it has been worth it. Literally there was no price too big to pay. Big banks which were teetering on the edge just had to be rescued.
Now like a drunk recovering from last night’s excesses, we are contemplating the problem of what to do about our crisis-ridden system for the future. Something has gone wrong. The banks have been generating profits at a pace which was just unsustainable. By normal commercial rules they were heading for the cliff and would have gone over it. Instead they were saved. By us, the taxpayers. They appear to have been playing a game in which it was heads they won and tails they didn’t lose. The people in who aren’t in finance but have just been working away at other services or indeed have still been manufacturing, have had to pay for this disaster. It’s amazing we haven’t had bloodshed in the streets. It has in fact been grossly unfair. Why should the whole of the rest of the community have to pay to rescue the wretched banks, for heaven’s sake? The fact is that many of the banks are now said to be too big to be allowed to fail. In that case they shouldn’t really be in the private sector in the first place. They’ve become the modern equivalent of the Utilities. They provide a service which the rest of us have to have. They are like the providers of electricity, water and even roads. They have too big a social content to their activities to be allowed to behave like gamblers on the loose. We have to take the fundamental step which many have been advising. We have to separate banking as a utility from banking as an entrepreneurial risk business.
Fifty years ago, this is how the City worked. The Governor of the Bank knew the heads of the what then were called merchant banks individually. He knew the details of their business. He had them in, physically, to go over what they were doing. The commercial banks namely the clearing banks, were run quite differently. They were the Utilities of the day. What we need to do now is to go back to the separation. The utility banks should really become part of the public sector. We should recognise the change which has occurred. We should cater for this change.
At the moment what we seem to be doing is contemplating a new regulatory system which can contain the risk involved in leaving utility banks in the private sector. We probably have to go through a phase of trying to do this and quite possibly failing to do it. Meanwhile we need to work on a suitable structure to put the utility banks into the public sector. Only when we finally do that will we have solved the problem which faced Bagehot 150 years ago but which now faces us on a much larger scale than that which faced him. The challenge has grown too big for his solution. There’s nobody today that can be the lender of last resort. Nobody, that is, except the Government. Taxpayers are not going to put up with a repeat of the current crisis. Nor should they. If they are going to have to pay for rescues like this then they should call the tune. And the tune is a system that does away with the need for a lender of last resort. The problem has outgrown that solution.
The obvious difficulty in the way of embracing this solution, that of putting the utility banks into the public sector, is the inhibitions we have developed about the role of the public sector. This was particularly the case as we went through the recent 30 year phase of believing markets always knew best and could be left to do everything. Well, we’ve now seen what that attitude has led us to. It was an attitude which very nearly led to collapse. There will be those who are still in love with the old system. They will plead the case in favour of going back to the old “business as usual” attitude. To do this would only be to head for disaster again. The world has changed. And so must we.
Tony Rudd
Add Feedback
View Feedback
|
|
