No Mr. Martin Wolf, our banks are not terminally ill, and we don’t have to go communist

Sir, imagine being a director in an old fashioned bank board which approves all credits, one at the time. And then think about how you and your colleagues would proceed if, in a corner of the board room sat a regulator who ordered you to allocate a certain amount of capital for each credit, depending on the risk of the borrower, as perceived by a credit rating agency. It would of course be impossible for you to allocate the bank credits in such a way that maximizes economic growth. But that is in essence what happens today, and so we have a banking system that has become completely dysfunctional.

But this regulatory intrusion in the credit allocation system of the banks, and which among other allows banks to create money when lending to “The Infallible” against almost nothing of their own capital, and which de-facto penalizes the lending to “The Risky”, is still much ignored, perhaps even on purpose.

For instance when Martin Wolf asks: “Why should state-created currency be predominantly employed to back the money created by banks as a byproduct of often irresponsible lending?”; and follows up with a “the case for using the state´s power to create credit and money in support of public spending is strong”; he is arguing his point based on the premise that our banking system is irreversibly damaged. And based on that he suggests we should leap into a system where government bureaucrats substitute for private decision making, and “discussions between the ministry of finance and the independent central bank substitutes for markets, “The case for helicopter money…” February 13.

Yes Mr. Wolf “Cancer sufferers have to undergo dangerous treatments”, but these have to be the correct treatments. And the most correct treatment of our banking system is to help our banks to get rid of those obnoxious regulatory intruders (like Lord Turner) who so stupidly, and odiously, favor those already favored and discriminate those already being discriminated against by the markets.

Many years ago, I set up a blog titled the AAA-bomb, and where in jest I described how a disgruntled unemployed former Kremlin bureaucrat sat out to destroy the “enemy” by planting the idea of capital requirements based on perceived risk in the middle of its banking system.

But when Martin Wolf writes about fiat money promoting public spending in terms of morality, and ignores the fact that the banks’ boardroom intruders already allow banks to lend to the infallible sovereign without holding any capital, I get that uncomfortable sinking feeling that perhaps there is more of a conspiracy to it than what I ever thought possible.

Does this mean I am an extremist set against any government stimulus or deficit? Of course not! But I do believe we must see to that our economic resources are efficiently allocated by the banks, before we waste whatever fiscal and monetary space we might have available. 

PS. Wolf begins by quoting Mark Twain saying “It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so”. That is something that clearly describes the sheer stupidity of capital requirements for banks based on trusting too much ex-ante perceptions of risk to hold up ex-post.

PS. Lord Adair Turner in the “Debt, Money and Mephistopheles” lecture referenced, speaks about “pre-crisis financial folly – above all the growth of excessive leverage”. But there is not one word about his shameful role, as a regulator, in creating the crisis. Not a word about that he thought it was ok for a UK bank to hold 8 percent in capital, a leverage of 12.5 to 1 when lending to a “risky” UK small businesses or entrepreneur, while allowing banks to hold only 1.6 percent in capital, a leverage of 62.5 to 1, when lending to a sovereign like Greece or investing in a security rated AAA to AA.