March 13, 2013
Sir, Martin Wolf writes: “What truly is incredible is that Mr Cameron cannot understand that, if an entity that spends close to half of gross of gross domestic product retrenches as the private sector retrenches is also retrenching, the decline in overall output may be so large that its finances end up worse than when it started”. And then Wolf repeats his beliefs that “the markets deem the government solvent, since they are willing to it at the lowest rates in UK history” and so therefore he concludes, in essence, that the UK Government should invest more, “Britain’s austerity is indefensible” March 13.
To me what is truly incredible is that Mr Wolf does not understand that while there is a severe shortage of capital in banks, and banks are required to hold immensely much more capital when lending to the private small businesses and entrepreneurs, than when lending to the infallible sovereign, those who are the first private line of responders in any crisis, will not have access to bank credit in competitive terms, while the government will find the demand for its debt artificially increased, and therefore the rates it pays subsidized.
Wolf ends with “we have to consider why the economy has proved so fragile and rebalancing so difficult”. I have tried to explain it to him many times. Once again, if you allow banks to earn immensely more expected risk-adjusted returns on their equity when lending or investing in what is perceived as “absolutely safe”, than when lending to what is perceived as “risky”, you are doomed to end up with a fragile and dying economy. It is the risky risk-takers those who most can make it move forward, so as not to stall and fall, especially in a crisis.
So Mr Wolf, why this insistence in favoring bureaucrats over bankers making investments decisions? What is needed instead is something like, while the capital ratios of banks are rebuilt, the banks are allowed to lend to both “risky” and “infallible” alike, with their current capital ratio.
PS. I just read again, I guess I could not believe it the first time, Wolf opining: “The rating of a sovereign that cannot default on its debt in its own currency means little”. I am amazed, as if it would not matter whether they repay you with something worth something or with something worthless.